##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION  FORM 10-K x
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
 For the fiscal year ended December 31, 2003or o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 Commission file number 0-20882 Standard Management Corporation  Indiana
(State or other jurisdiction of
incorporation or organization)
    
    35-1773567
(I.R.S. employer
identification no.)
 10689 North Pennsylvania Street, Indianapolis, Indiana 46280
(Address of principal executive offices)
    
    (317) 574-6200
(Telephone)
 Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, No Par Value 10.25% Trust Preferred
Securities due 2031
 Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes x No o Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K.  No o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes o No x The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based upon the closing sale price of the
Registrants Common Stock as of the most recently
completed second quarter as reported on The NASDAQ Stock Market,
was approximately $25.8 million. Shares of Common Stock held by each executive
officer and director and by each person who owns 5% or more of the outstanding
Common Stock have been excluded in that such persons may be deemed to be
affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes. As of February 29, 2004 Registrant had outstanding 8,114,196 shares of Common
Stock. Documents Incorporated by Reference: None




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Table of Contents PagePart 1Item 1.
    
    Business
    
    
    3Item 2.
    
    Properties
    
    
    17Item 3.
    
    Legal Proceedings
    
    
    17Item 4.
    
    Submission of Matters to a Vote of Securities Holders
    
    
    18Part IIItem 5.
    
    Market for our Common Stock and Related Stockholder Matters
    
    
    18Item 6.
    
    Selected Financial Data
    
    
    19Item 7.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    20Item 7A.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    45Item 8.
    
    Consolidated Financial Statements and Supplementary Data
    
    
    46Item 9.
    
    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
    
    
    47Item 9A.
    
    Controls and Procedures
    
    
    47Part IIIItem 10.
    
    Directors and Executive Officers of the Registrant
    
    
    48Item 11.
    
    Executive Compensation
    
    
    50Item 12.
    
    Security Ownership of Certain Beneficial Owners and Management
    
    
    53Item 13.
    
    Certain Relationship and Related Transactions
    
    
    54Item 14.
    
    Principal Accounting Fees and Services
    
    
    54Part IVItem 15.
    
    Exhibits, Financial Statement Schedules and Reports on Form 8-K
    
    
    55EX-10.5 LEASE BY AND BETWEEN STANDARD LIFEEX-23.1 CONSENT OF ERNST & YOUNG LLPEX-23.2 CONSENT OF KPMG AUDITEX-31.1 SECTION 302 CERTIFICATION OF CEOEX-31.2 SECTION 302 CERTIFICATION OF CFOEX-32 SECTION 906 CERTIFICATION OF CEO & CFO
 2






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PART I As used in this report, unless the context otherwise clearly requires,
we, our, us, and Standard Management refer to Standard Management
Corporation. All financial information contained in this report is presented in
accordance with generally accepted accounting principles (GAAP) unless
otherwise specified. Our website is located at www.sman.com, however, the
information contained on the website is not to be considered incorporated by
reference herein. 
 Item 1. Business of Standard Management Overview Standard Management is a holding company that currently conducts its
business through two distinct segments: financial services and health
services. The financial services segment is primarily involved in the asset
accumulation business targeting the retirement-age market. Principally through
its wholly owned life insurance subsidiary, Standard Life Insurance Company of
Indiana (Standard Life), we develop, market and administer annuity and life
insurance products. Historically, substantially all of our business has been
conducted in the financial services segment through Standard Life and our other
insurance company subsidiaries. In 2002, we entered the health services segment. The health services
segment is operated through our subsidiary, U.S. Health Services Corporation.
U. S. Health Services distributes pharmaceutical products and services to
institutions, point of care programs, contract repackaging services and
consumers. Recent Developments Standard Management recently engaged
investment banking advisors for the purpose of providing us and our
subsidiaries with advice in analyzing our capital needs and other
general financial advisory services. The services being provided by
these advisors will be used by Standard Management in consideration
of a variety of potential business arrangements or undertakings
including, without limitation:  
    
    the possible restructuring or reorganization of the capital
or debt of Standard Management or any of our subsidiaries;
    
    the potential public or private placement of one or more
securities of Standard Management or any of our subsidiaries;
    
    possible joint ventures, combinations or undertakings between
Standard Management and various third parties; or
    
    the possible sale of a material portion of the assets or
securities of Standard Management or any of our subsidiaries to, or
merger of Standard Management or any of our subsidiaries with,
various third parties. As
part of this process, our investment banking advisors have received
indications of interest for the purchase of Standard Life. At the
present time, we have not commenced negotiations with any party nor
have we entered into an agreement with respect to any transaction,
although we are considering all of our options and may elect to
enter into negotiations with respect to the sale of Standard Life or
with respect to any of the other alternatives. In the event we
consummate a sale of Standard Life, management anticipates that it
would cease operations in the life insurance sector and focus
primarily on the health services sector. In
the event a transaction were to be consummated, we would expect to
use the proceeds of any such transaction for various corporate
purposes including to pay off some or all of our existing
indebtedness, to fund the capital needs of our health services
operations, for potential acquisitions of complementary business, and
for other general corporate purposes. To the extent any such
disposition provides proceeds in excess of our needs, we could use
some or all of such excess funds to repurchase outstanding shares of
our common stock or declare a cash dividend. Because of the existence
of potential business arrangements as described, shareholders should
carefully evaluate the risks that are associated with a change in the
primary nature of our business operations, while at the same time
recognizing that the timing of any shift in the focus of our business
operations or a sale of financial services assets is uncertain and
might not occur at all. See Factors That May Affect Further
Results commencing on page 39. 3




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Financial Services Segment Our financial services segment includes Standard Life, our principal
insurance subsidiary, which was organized in 1934 as an Indiana domiciled life
insurer. It is licensed to write new business or service existing business in
the District of Columbia and all states except New York and New Jersey.
Standard Life currently sells deferred annuities, equity-indexed annuities, and
single premium immediate annuities and manages its in force life business.
Standard Life has a rating of B+ (Very Good) from the rating agency A.M. Best
Company, Inc. (A.M. Best). This segment also includes Standard Lifes
subsidiary Dixie National Life Insurance Company (Dixie Life). Marketing Standard Life offers a full portfolio of annuity products selected on the
basis of their competitive position, profitability and likely consumer
acceptance. Such portfolio includes single and flexible premium deferred
annuities, equity-indexed annuities and single premium immediate annuities.
Standard Life does not offer variable annuity products. Our agency force,
which includes approximately 10,250 independent general agents, was organized
to provide a lower cost alternative to the traditional captive agency force.
These agents distribute a full line of annuity products issued by Standard
Life. We believe that both agents and policy owners value the service we
provide. We assist agents in 1) submitting and processing policy applications,
2) training and education, and 3) marketing support. Each general agent operates his own agency and is responsible for all
expenses of the agency. The general agents are compensated directly by
Standard Life, which performs issuance, underwriting and accounting functions
related to the policy. Standard Life is not dependent on any one agent or
agency for any substantial amount of its business. No single agent accounted
for more than 2% of Standard Lifes annual annuity sales in 2003, and the top
20 individual agents accounted for approximately 18% of Standard Lifes annuity
sales in 2003. At December 31, 2003, approximately 42% of Standard Lifes
independent agents were located in Indiana, California, Florida, Ohio and
Michigan with the remaining agents distributed across the country. Standard
Life is attempting to increase the number and geographic diversity of its
agents. Standard Life does not have exclusive agency agreements with its agents.
Therefore, our management believes most of these agents sell similar products
for other insurance companies, which could result in a sales decline if
Standard Lifes products were to become relatively less competitive. Currently Marketed Products We primarily market deferred annuities, equity-indexed annuities, and
single premium immediate annuities. The following table sets forth the amounts
and percentages of our net deposits received from currently marketed products
for the year ended December 31 (in thousands): 2003
    
    2002
    
    2001Amount
    
    %
    
    Amount
    
    %
    
    Amount
    
    %Deferred annuities
    
    $
    129,391
    
    
    
    31.9
    
    
    $
    320,647
    
    
    
    55.1
    
    
    $
    178,238
    
    
    
    57.2Equity-indexed annuities
    
    
    125,302
    
    
    
    30.9
    
    
    
    126,743
    
    
    
    21.8
    
    
    
    67,159
    
    
    
    21.5Single premium immediate annuities
    
    
    151,243
    
    
    
    37.2
    
    
    
    134,782
    
    
    
    23.1
    
    
    
    66,269
    
    
    
    21.3Total
    
    $
    405,936
    
    
    
    100.0
    
    
    $
    582,172
    
    
    
    100.0
    
    
    $
    311,666
    
    
    
    100.0
 Deferred Annuities.Standard Life markets both single and flexible premium
deferred annuities, which provide for an initial deposit by the owner.
Flexible premium products also provide for optional additional deposits, the
time and amount of which are at the discretion of the owner. Standard Life
credits the account of the owner with earnings at interest rates that are
revised periodically until the maturity date. This accumulated value is tax
deferred. Revisions to interest rates on deferred annuities are restricted by
an initial crediting rate guaranteed for a specific period of time, usually one
year, and a minimum crediting rate guaranteed for the term of the deferred
annuity, which is typically 2.5% to 3%. At maturity, the owner can elect a lump
sum cash payment of the accumulated value or one of the various payout options
available. Standard Lifes deferred annuities also typically provide for
penalty-free partial withdrawals of up to 10% annually of the accumulation
value after the owner has held the deferred annuity for more than 12 months. In
addition, the owner may surrender the deferred annuity at any time before the
maturity date and receive the accumulated value, less any surrender charge then
in effect for that contract. To protect holders of deferred annuities from a
sharp reduction in the credited interest rate after a deferred annuity is
issued, Standard Life permits the deferred annuity holder of certain annuities
to surrender the annuity during a specified period 4




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without incurring a surrender charge if the renewal-crediting rate is
below a stated level. This stated level of interest is referred to as the
bail-out rate and is typically below the original crediting rate, but above
the minimum guaranteed crediting rate. Certain products also contain a market
value adjustment feature, whereby a policyholders surrender value is adjusted
for changes in the interest rate environment. This feature protects us against
the risk of policyholder surrender when asset values are depressed. As of January 1, 2004, the crediting rates available on new sales of
Standard Lifes currently marketed deferred annuities ranged from 3% to 5% with
most new issues having an interest rate with a one-year guarantee period.
Crediting rates on in force policies range from 3% to 7%. The surrender charge
is initially 7% to 14% of the contract value depending on the product and
decreases over the applicable surrender charge period of 5 to 10 years. As of
December 31, 2003, Standard Life had 19,299 currently marketed deferred annuity
contracts in force. Equity-indexed
Annuities. In response to consumers desire for
alternative investment products with returns linked to common stocks, Standard
Life introduced a line of equity-indexed annuity products in 1998. The
annuitys contract value is equal to the premium paid, increased for returns
based on the change in the Standard & Poors 500 Index (S&P 500 Index) and/or
the Dow Jones Industrial Average Index (DJIA Index). Standard Lifes
equity-indexed annuities apply index credits to policyholders annually, so that
a given years equity credits are locked in, and cannot be reduced by future
declines in the index. Two basic index-crediting methods are used for Standard
Lifes equity-indexed annuities, participation rate crediting and
spread/cap crediting. For participation rate products, a percentage (the
participation rate) of the change in the index accrues to the contract value.
For spread/cap products, increases in the index up to the spread amount do not
accrue to the contract value, but above the spread, the contract is credited
the full amount of the increase in the index up to the limit of the cap.
Standard Life has the discretion to annually change the participation rates and
spreads/caps on its products. The minimum guaranteed values are equal to
between 75% and 90% of first year premiums and between 87.5% and 90% of renewal
premiums collected for equity-indexed annuities, plus interest credited at an
annual rate of 3%. The annuities provide for penalty-free withdrawals of up to
10% in each year after the first year of the annuitys term. Other withdrawals
from the product are subject to a surrender charge. Standard Life purchases
S&Ps 500 Index or DJIA Index Call Options to hedge potential increases to
policyholder benefits resulting from increases in the index to which the
products return is linked. As of December 31, 2003, Standard Life had 10,120
currently marketed equity-indexed contracts in force. Single
Premium Immediate Annuities and Supplementary Contracts. Standard
Lifes currently marketed deferred annuity and equity indexed annuity products
offer policyholders the right to exchange their deferred annuity contract for a
supplementary contract which provides a guaranteed stream of benefit payments
for a fixed period and/or until the death of the annuitant. These
supplementary contracts have characteristics similar to single premium
immediate annuities. As of December 31, 2003, Standard Life had 6,091 single
premium immediate annuity contracts in force and 1,060 supplementary contracts
in-force arising from currently marketed annuity products. Other
Product Information. Premium deposits decreased in 2003 due to
management actions to preserve spread income in response to market conditions.
Management actions included reducing credited rates, lowering agent commissions
and temporarily suspending sales of selected products. Individual annuity sales within the United States have nearly tripled from
$61 billion in 1992 to more than $168 billion in 2002, according to the
American Council of Life Insurers. As the 76 million baby boomers born from
1946 through 1964 grow older, demand for insurance products is expected to
grow. We believe that those seeking adequate retirement incomes will become
less dependent on Social Security and their employers retirement programs and
more dependent upon their own financial resources. Annuities currently enjoy an
advantage over certain other saving mechanisms because the annuitant receives a
tax-deferred accrual of interest on the investment during the accumulation
period. 5




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Our gross domestic sale percentages by U.S. geographical region are
summarized as follows: State
    
    2003
    
    2002
    
    2001California
    
    
    19
    %
    
    
    15
    %
    
    
    21
    %Michigan
    
    
    19
    
    
    
    17
    
    
    
    5Florida
    
    
    18
    
    
    
    15
    
    
    
    11Indiana
    
    
    11
    
    
    
    14
    
    
    
    18Ohio
    
    
    6
    
    
    
    6
    
    
    
    7Wisconsin
    
    
    4
    
    
    
    4
    
    
    
    5Illinois
    
    
    3
    
    
    
    5
    
    
    
    2All other states (1)
    
    
    20
    
    
    
    24
    
    
    
    31Total
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
  (1)
    
    No other state had gross sales greater than 3 % in 2003. Former Products (Closed Blocks) We also generate cash flow and income from our closed blocks of in force
life insurance and annuities. Closed blocks consist of in force life insurance
and annuities that are not currently being marketed. The closed block
designation does not have legal or regulatory significance and there are no
restrictions on their assets or future profits. The premiums received on the
closed blocks are primarily from the ordinary and universal life business.
Closed block premiums typically decline over extended periods of time as a
result of policy lapses, surrenders and expiries. Annuities.
Our closed blocks of deferred annuities consist primarily of
flexible premium deferred annuities and a small amount of single premium
deferred annuities, which, unlike flexible premium deferred annuities, do not
provide for additional deposits. As of January 1, 2004, these deferred
annuities had crediting rates ranging from 3% to 5.5% and guaranteed minimum
crediting rates ranging from 3% to 5.5%. The crediting rate may be changed
periodically. The contract owner is permitted to withdraw all or part of the
accumulation value. Our closed blocks of annuities include payout annuities
which consist of immediate annuities and supplementary contracts in which
benefits are paid out over a specified time period. Payout annuities cannot be
terminated by surrender or withdrawal. Interest rates used in determining
payout annuities range from 1.5% to 7% and cannot be changed after a policy is
issued. At December 31, 2003, we had 553 annuity contracts in force for closed
blocks. Traditional
Life. Our closed blocks of traditional life business include
several types of participating and non-participating, whole life and term life
insurance policies. Face amounts vary, but retained death benefits are $150,000
or less per life. Traditional life insurance products involve fixed premium
payments made over time, with the stated death benefit paid in full upon the
death of the insured. The whole life policy combines the death benefit with a
forced savings plan. Premiums remain level over the life of the policy, with
the policyholder prefunding during the early years of coverage when risk of
death is low. Over time, whole life policies begin to accrue a cash value,
which can be made available to the policyholder net of taxes and withdrawal
penalties. The term policy provides benefits only as long as premiums are
paid. At December 31, 2003, we had 36,073 traditional life policies in force
for closed blocks. Universal
Life. Our closed blocks of universal life business include
flexible premium universal life policies, which provide for periodic deposits,
interest credits to account values and charges to the account values for
mortality and administrative costs. As of January 1, 2004, the interest rate
on existing flexible premium universal life policies was 3% to 5% with a
guaranteed interest rate of 3% to 5%. At December 31, 2003, we had 9,877
universal life policies in force for closed blocks. Operations Our principal administrative departments for our insurance subsidiaries
include financial, new business, policyholder services, and information
technology services (IT) departments. The financial department provides
accounting, budgeting, tax, investment, financial reporting and actuarial
services and establishes cost control systems. The new business department
reviews policy applications, and issues and administers our policies. The
policyholder services department authorizes disbursements related to claims and
surrenders. The IT department oversees and administers our information
processing systems. 6




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Our administrative departments use a common integrated policy
administration system that permits efficiency and cost control. Our IT system
services approximately 92,500 active policies at December 31, 2003. Underwriting Premiums charged on life insurance products are based in part on
assumptions about the incidence and timing of insurance claims. When we issued
life insurance business, we adopted and followed underwriting procedures for
traditional and universal life insurance policies. Since we no longer issue new
life insurance policies, life insurance underwriting activities are minimal and
occur only when a policyholder requests a change which is subject to
underwriting. Underwriting with respect to annuities is minimal. Investments Investment activities are an integral part of our business as the
investment income of our insurance subsidiaries is a significant part of total
revenues. Profitability is significantly affected by spreads between interest
earned on invested assets and rates credited on insurance liabilities. The
weighted average net yield of our investment portfolio was 5.34%. We balance the duration of our invested assets with the expected duration
of benefit payments arising from insurance liabilities. The duration of a
security is a measure of a securitys price sensitivity to changes in market
interest rates. The option-adjusted duration of fixed maturity securities and
short-term investments for our U.S. insurance subsidiaries was 4.9 and 3.9
years at December 31, 2003 and 2002, respectively, which reasonably match the
duration of our policy liabilities of 4.4 and 5.1 years at December 31, 2003
and 2002, respectively. Our investment strategy is guided by strategic objectives established by
the Investment Committee of our board of directors. Our major investment
objectives are to: 1) maximize book investment income without exposing surplus
to excessive volatility, 2) match the anticipated duration of investments with
the anticipated duration of policy liabilities through our asset-liability cash
flow management process, 3) maximize our company objectives for tax
considerations and realized gain/loss recognition, and 4) provide sufficient
liquidity to meet cash requirements with minimum sacrifice of investment yield.
Consistent with this strategy, we invest primarily in securities of the U.S.
government and its agencies, investment grade utilities, corporate debt
securities and collateralized mortgage obligations. When opportunities arise,
below investment grade securities may be purchased; however, protection against
default risk is a primary consideration. We will not invest more than 7% of our
bond portfolio in below investment grade securities. The National Association of Insurance Commissioners (NAIC) assigns
quality ratings to securities called NAIC Designations which are used by
insurers when preparing their annual statements. The NAIC assigns ratings to
publicly traded and privately-placed securities. The ratings assigned range
from Class 1 to Class 6, with a rating in Class 1 being of the highest quality.
The following table sets forth the quality of our fixed maturity securities as
of December 31, 2003, classified in accordance with the ratings assigned by the
NAIC: Percent of FixedNAIC Rating
    
    Maturity Securities1
    
    
    712
    
    
    28Total Investment Grade
    
    
    993-4
    
    
    15-6
    
    
    Total
    
    
    100
    %
 Deutsche Investment Management Americas Inc. manages our fixed maturity
securities, subject to the direction of management and our Investment
Committee. Approximately 50% of our fixed maturity securities at December 31, 2003
are comprised of mortgage-backed securities that include collateralized
mortgage obligations and mortgage-backed pass-through securities. Approximately
13% of the book value of mortgage-backed securities in our portfolio are backed
by the full faith and credit of the U.S. government as to the full amount of
both principal and interest and 72% are backed by an agency of the U.S.
government (although not by the full faith and credit of the U.S. government).
In rising interest rate environments, prepayments on mortgage-backed securities
will slow and result in duration extension. In anticipation of rising interest
rates in 2004 and beyond, during 2003 we repositioned its mortgage-backed
portfolio by selling agency guaranteed mortgage-backed securities 7




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and investing in more tightly structured securities including agency
backed planned amortization class collateralized mortgage obligations and
commercial mortgage-backed securities. As a result, agency mortgage-backed
pass-through securities were reduced from $432.0 million or 68% of
mortgage-backed securities at December 31, 2002 to $273.8 million or 33% of
mortgage backed securities at December 31, 2003. The following table summarizes our mortgage-backed securities at December
31, 2003 (in thousands): Estimated
    
    Avg.% of
    
    
    
    
    
    
    
    
    
    Avg. Life
    
    TermAmortized
    
    Fixed
    
    Fair
    
    % of
    
    of
    
    to FinalCost
    
    Maturities
    
    Value
    
    Fixed Maturities
    
    Investment
    
    Maturity(In Years)
    
    (In Years)Agency collateralized mortgage obligations:Planned and target amortization classes
    
    $
    351,994
    
    
    
    21.5
    %
    
    $
    349,286
    
    
    
    21.2
    %
    
    
    6.7
    
    
    
    22.0Sequential and support classes
    
    
    67,263
    
    
    
    4.1
    %
    
    
    65,550
    
    
    
    4.0
    %
    
    
    2.4
    
    
    
    20.1Total
    
    
    419,257
    
    
    
    25.6
    %
    
    
    414,836
    
    
    
    25.2
    %
    
    
    6.0
    
    
    
    21.7Non-agency collateralized mortgage
obligations:Planned and target amortization classes
    
    
    6,242
    
    
    
    0.4
    %
    
    
    6,285
    
    
    
    0.4
    %
    
    
    1.6
    
    
    
    28.4Sequential classes
    
    
    31,311
    
    
    
    1.9
    %
    
    
    30,088
    
    
    
    1.9
    %
    
    
    0.3
    
    
    
    24.7Other
    
    
    66,967
    
    
    
    4.1
    %
    
    
    66,532
    
    
    
    4.0
    %
    
    
    7.2
    
    
    
    23.2Total
    
    
    104,520
    
    
    
    6.4
    %
    
    
    102,905
    
    
    
    6.3
    %
    
    
    5.8
    
    
    
    22.1Total CMOs
    
    
    523,777
    
    
    
    32.0
    %
    
    
    517,741
    
    
    
    31.5
    %
    
    
    5.8
    
    
    
    22.1Non agency collateralized mortgage-backed
securities
    
    
    26,299
    
    
    
    1.6
    %
    
    
    26,529
    
    
    
    1.6
    %
    
    
    4.0
    
    
    
    25.0Agency mortgage-backed pass-through
securities
    
    
    273,832
    
    
    
    16.7
    %
    
    
    278,264
    
    
    
    16.9
    %
    
    
    25.6
    
    
    
    26.1Total mortgage-backed securities
    
    $
    823,908
    
    
    
    50.3
    %
    
    $
    822,534
    
    
    
    50.0
    %
    
    
    12.3
    
    
    
    23.5
 The fair values for mortgage-backed securities were determined from
broker-dealer markets, internally developed methods and nationally recognized
statistical rating organizations. Certain mortgage-backed securities are subject to significant prepayment
risk, since, in periods of declining interest rates, mortgages may be repaid
more rapidly than scheduled as individuals refinance higher rate mortgages to
take advantage of the lower current rates. As a result, holders of
mortgage-backed securities may receive large prepayments on their investment,
which cannot be reinvested at an interest rate comparable to the rate on the
prepaying mortgages. Planned and target amortization class securities are
designed to amortize in a more predictable manner by shifting the primary risk
of prepayment of the underlying collateral to investors in other tranches
(support classes). Mortgage-backed pass-through securities, sequential and
support class collateralized mortgage obligations, which comprised the
remaining 56.5% of the book value of our mortgage-backed securities at December
31, 2003, are more sensitive to prepayment risk. Reserves Our insurance subsidiaries have established and carry as liabilities in
their financial statements actuarially determined liabilities to satisfy their
respective annuity contract and life insurance policy obligations. 8




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Insurance policy liabilities for deferred annuities and universal life
policies are equal to the full account value that accrues to the policyholder
(cumulative premiums less certain charges, plus interest credited) with
credited interest rates ranging from 3.0% to 7.55% in 2003 and 3.0% to 11.5% in
2002. Insurance policy liabilities for equity-indexed annuity products are
computed in accordance with Statement of Financial Accounting Standards No.
133, Accounting for Derivative Instruments and Hedging Activities (SFAS
133), and consist of a book value liability for benefits guaranteed in the
contract, combined with a market value liability for equity-linked benefits of
the contract. We perform periodic studies to compare current experience for mortality,
interest and lapse rates with projected experience used in calculating the
annuity and life insurance policy liabilities. Differences
are reflected currently in earnings for each period. We recorded a charge of
$7.9 million and $7.8 million for 2003 and 2002, respectively, related to the
acceleration of deferred policy acquisition costs (DAC) amortization due to
DAC unlocking. Insurance policy liabilities for traditional life insurance contracts are
computed using the net level premium method on the basis of assumed investment
yields, mortality and withdrawals, which were appropriate at the time the
policies were issued. Assumed investment yields are based on interest rates
ranging from 6.2% to 7.5%. Mortality is based upon various actuarial tables,
principally the 1965-1970 or the 1975-1980 Select and Ultimate Table.
Withdrawals are based upon our experience and vary by issue age, type of
coverage, and duration. Reinsurance Consistent with the general practice of the life insurance industry, we
have reinsured portions of the coverage provided by our insurance products with
other insurance companies under agreements of indemnity reinsurance. Our
policy risk retention limit on the life of any one individual does not exceed
$150,000. Indemnity reinsurance agreements are intended to limit a life insurers
maximum loss on a particular risk or to obtain a greater diversification of
risk. Indemnity reinsurance does not discharge the primary liability of the
original insurer to the insured, but it is the practice of insurers for
statutory accounting purposes (subject to certain limitations of state
insurance statutes) to account for risks which have been reinsured with other
approved companies, to the extent of the reinsurance, as though they are not
risks for which the original insurer is liable. However, under Statement of
Financial Accounting Standards No. 113 (SFAS 113), Accounting and Reporting
for Reinsurance of Short-Duration and Long-Duration Contracts, these amounts
are added back to policy reserves and recorded as amounts due from reinsurers. Reinsurance ceded on life insurance policies to unaffiliated companies in
2003, 2002 and 2001, excluding financial reinsurance agreements, represented
39%, 40%, and 42%, respectively, of our gross combined individual life
insurance in force at the end of such years. Reinsurance assumed in the normal
course from unaffiliated companies in 2003, 2002 and 2001 represented 9.2%,
9.0%, and 9.3%, respectively, of our net combined individual life insurance in
force. The following is reinsurance ceded information for the four reinsurers to
which we have ceded the largest amount of life reinsurance at December 31, 2003
(in thousands): % of TotalFace Value of
    
    Reinsurance
    
    ReinsuranceInsurance Company
    
    Life Policies
    
    Ceded
    
    RecoverableEmployers Reassurance Corporation
    
    $
    130,560
    
    
    
    28.7
    %
    
    $
    1,186Lincoln National Life Insurance Company
    
    
    91,285
    
    
    
    20.0
    %
    
    
    1,071General USA Life Reassurance Company
    
    
    70,904
    
    
    
    15.6
    %
    
    
    360Swiss Re Life & Health America
    
    
    46,124
    
    
    
    10.1
    %
    
    
    533
 Reinsured life insurance in force at December 31, 2003 is ceded to
insurers rated A- (Excellent) or better by A.M. Best. Historically, we have
not experienced material losses in collection of reinsurance receivables. Our largest annuity reinsurer at December 31, 2003, SCOR Life U.S.
Insurance Company (SCOR Life), represented $18.2 million, or 51% of our total
reinsurance recoverable and is rated B++ (Very Good) by A.M. Best. 9




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Competition The life insurance industry is highly competitive and consists of a large
number of both stock and mutual insurance companies, many of which have
substantially greater financial resources, broader and more diversified product
lines and larger staffs than those possessed by Standard Management. According
to the American Council of Life Insurers, as of 2003, there were approximately
1,171 life insurance companies in the United States, which may offer insurance
products similar to ours. Competition within the life insurance industry occurs
on the basis of, among other things, 1) product features such as price and
interest rates, 2) perceived financial stability of the insurer, 3)
policyholder service, 4) name recognition and 5) ratings assigned by insurance
rating organizations. We must also compete with other insurers to attract and retain the
allegiance of agents. We believe that competition centers more on the strength
of the agent relationship rather than on the insurers name recognition to the
customer. We offer competitive products, competitive commission structures,
internet-based agent services, prompt policy issuance and responsive
policyholder service and believe we are successful in attracting and retaining
agents. Competition also is encountered from the expanding number of banks,
securities brokerage firms and other financial intermediaries which are
marketing insurance products and which offer competing products such as savings
accounts and securities. The passage, by Congress, of the Gramm-Leach-Bliley
Financial Services Modernization Act (GLB Act) has expanded competitive
opportunities for non-insurance financial services companies. Financial institutions, marketing companies, agents who market insurance
products and policyholders use the ratings of an insurer as one factor in
determining which insurers annuity to market or purchase. Standard Life and
Dixie Life have a rating of B+ and B, respectively, by A.M. Best. A rating
of B+ is assigned by A.M. Best to companies that, in their opinion, have
achieved very good overall performance when compared to the standards
established by A.M. Best, and have a good ability to meet their obligations to
policyholders over a long period of time. A rating of B is assigned by A.M.
Best to companies that, in their opinion, have achieved good overall
performance when compared to the standards established by A.M. Best. According
to A.M. Best, these companies generally have an adequate ability to meet their
obligations to policyholders, but their financial strength is vulnerable to
unfavorable changes in underwriting or economic conditions. In evaluating a
companys financial and operating performance, A.M. Best reviews the companys
profitability, leverage and liquidity as well as the companys book of
business, the adequacy and soundness of its reinsurance, the quality and
estimated market value of its assets, the adequacy of its reserves and the
experience and competence of its management. A.M. Bests ratings are based upon
factors relevant to policyholders, agents, insurance brokers and intermediaries
and are not directed to the protection of investors. Generally, rating agencies
base their ratings on information furnished to them by the issuer and on their
own investigations, studies and assumptions by the rating agencies. There is no
assurance that any particular rating will continue for any given period of time
or that it will not be changed or withdrawn entirely if, in the judgment of the
rating agency, circumstances so warrant. Although a higher rating by A.M. Best
or another insurance rating organization could have a favorable effect on
Standard Lifes business, management believes that it is able to compete on the
basis of their competitive crediting rates, asset quality, strong relations
with its independent agents and the quality of service to its policyholders. Federal Income Taxation We file a consolidated return with our non-insurance subsidiaries,
excluding U.S. Health Services, for federal income tax purposes, and beginning
January 1, 2001 with our insurance subsidiaries, Standard Life and Dixie Life.
At December 31, 2003, we have a net capital loss carryforward of approximately
$.5 million, which expires in 2007. The products marketed and issued by Standard Life generally provide the
policyholder with an income tax advantage, as compared to other saving
investments such as certificates of deposit and bonds, in that income taxation
on the increase in value of the product is deferred until receipt by the
policyholder. With other savings investments, the increase in value is taxed as
earned. Life insurance benefits that accrue prior to the death of the
policyholder, and annuity benefits, are generally not taxable until paid, and
life insurance death benefits are generally exempt from income tax. The tax
advantage for life insurance and annuity products is provided in the Internal
Revenue Code of 1986, as amended, and is generally followed in all states and
other U.S. taxing jurisdictions. Accordingly, it is subject to change by
Congress and the legislatures of the respective taxing jurisdictions. Inflation A primary direct effect of inflation is an increase to our operating
expenses. A large portion of our operating expenses consists of salaries, which
are subject to wage increases at least partly affected by the rate of
inflation. 10




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The rate of inflation also affects us indirectly. To the extent that the
governments economic policy to control the level of inflation results in
changes in our interest rates, our new sales of annuity products, investment
income and withdrawal rates are affected. Changes in the level of interest
rates also have an effect on interest spreads, as investment earnings are
reinvested. Regulatory Factors Our insurance subsidiaries are subject to significant regulation by the
insurance regulatory authorities in the jurisdictions in which they are
domiciled and the insurance regulatory bodies in the other jurisdictions in
which they are licensed to sell insurance. The purpose of such regulation is
primarily to ensure the financial stability of insurance companies and to
provide safeguards for policyholders rather than to protect the interest of
stockholders or debtholders. The insurance laws of various jurisdictions
establish regulatory agencies with broad administrative powers relating to 1)
the licensing of insurers and their agents, 2) the regulation of trade
practices, 3) management agreements, 4) the types of permitted investments and
maximum concentration, 5) deposits of securities, 6) the form and content of
financial statements, 7) premiums charged by insurance companies, 8) sales
literature and insurance policies, 9) accounting practices and the maintenance
of specified reserves and 10) capital and surplus. Our insurance subsidiaries
are required to file detailed periodic financial reports with supervisory
agencies in certain jurisdictions. Most states have also enacted legislation regulating insurance holding
company activities including acquisitions, extraordinary dividends, terms of
surplus debentures, terms of affiliate transactions and other related matters.
The insurance holding company laws and regulations vary by state, but generally
require an insurance holding company and its insurance company subsidiaries
licensed to do business in the state to register and file certain reports with
the regulatory authorities, including information concerning capital structure,
ownership, financial condition, certain intercompany transactions and general
business operations. State holding company laws also require prior notice or
regulatory agency approval of certain material intercompany transfers of assets
within the holding company structure. Recently a number of state regulators
have considered or have enacted legislative proposals that change, and in many
cases increase, the authority of state agencies to regulate insurance companies
and holding companies. For additional information on state laws regulating
insurance company subsidiaries, see Managements Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital
Resources and Note 13 to our Consolidated Financial Statements. Under Indiana insurance law, Standard Life may not enter into certain
transactions, including management agreements and service contracts, with
members of its insurance holding company system, including Standard Management,
unless Standard Life has notified the Indiana Department of Insurance of its
intention to enter into these transactions and the Indiana Department of
Insurance has not disapproved of them within the period specified by Indiana
law. Among other things, these transactions are subject to the requirement that
their terms and charges or fees for services performed be fair and reasonable. The Indiana insurance laws and regulations require that the statutory
surplus of Standard Life following any dividend or distribution be reasonable
in relation to its outstanding liabilities and adequate to its financial needs.
The Indiana Department of Insurance may bring an action to enjoin or rescind
the payment of a dividend or distribution by Standard Life that would cause its
statutory surplus to be unreasonable or inadequate under this requirement. Most states, including Indiana, require administrative approval of the
acquisition of 10% or more of the outstanding shares of an insurance company
incorporated in the state or the acquisition of 10% or more of the outstanding
shares of an insurance holding company whose insurance subsidiary is
incorporated in the state. The request for approval must be accompanied by
detailed information concerning the acquiring parties and the plan of
acquisition. The acquisition of 10% of these shares is generally deemed to be
the acquisition of control for the purpose of the holding company statutes.
However, in many states the insurance authorities may find that control in
fact does or does not exist in circumstances in which a person owns or controls
either a lesser or a greater amount of securities. In some instances state regulatory authorities require deposits of assets
for the protection of either policyholders in those states or for all
policyholders. At December 31, 2003, securities of $11.0 million, or
approximately .65% of the book value of our U.S. insurance subsidiaries
invested assets, were on deposit with various state treasurers or custodians.
These deposits must consist of securities that comply with the standards that
the particular state has established. In recent years, NAIC, and state insurance regulators have examined
existing laws and regulations and their application to insurance companies.
This examination has focused on 1) insurance company investment and solvency
issues, 2) risk-based capital guidelines, 3) assumption reinsurance, 4)
interpretations of existing laws, 5) the development of new laws, 6) the
interpretation of non-statutory guidelines, 7) the standardization of statutory
accounting rules and 8) the 11




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circumstances under which dividends may be paid. The NAIC has encouraged
states to adopt model NAIC laws on specific topics such as holding company
regulations and the definition of extraordinary dividends. We are unable to
predict the future impact of changing state regulation on our operations. The NAIC, as well as Indiana and Mississippi, have each adopted Risk-Based
Capital (RBC) requirements for life and health insurance companies to
evaluate the adequacy of statutory capital and surplus in relation to
investment and insurance risks. State insurance regulators use the RBC
requirements as regulatory tools only, which aid in the identification of
insurance companies that could potentially lack sufficient capital. Regulatory
compliance is determined by a ratio (the RBC Ratio) of the companys
regulatory total adjusted capital to its authorized control level RBC. The two
components of the RBC Ratio are defined by the NAIC. The RBC ratios that
require corrective action are as follows: Level
    
    RBC Ratio
    
    Corrective ActionCompany Action
    
    1.5 - 2
    
    Company is required to submit a plan to
improve its RBC RatioRegulatory Action
    
    1 - 1.5
    
    Regulators will order corrective actionsAuthorized Control
    
    0.7 - 1
    
    Regulators are authorized to take control of the companyMandatory Control
    
    less than 0.7
    
    Regulators must take over the company
 At December 31, 2003, the RBC Ratios of Standard Life and Dixie Life were
2.9 and 8.1, respectively. If these RBC Ratios should decline in the future,
our subsidiaries might be subject to increased regulatory supervision and
decreased ability to pay dividends, management fees and surplus debenture
interest to Standard Management. On the basis of annual statutory statements filed with state regulators,
the NAIC calculates 12 financial ratios to assist state regulators in
monitoring the financial condition of insurance companies. A usual range of
results for each ratio is used as a benchmark. In the past, variances in
certain ratios of our insurance subsidiaries have resulted in inquiries from
insurance departments to which we have responded. Such inquiries did not lead
to any restrictions affecting our operations. We attempt to manage our assets and liabilities so that income and
principal payments received from investments are adequate to meet the cash flow
requirements of our policyholder liabilities. The cash flows of our liabilities
are affected by actual maturities, surrender experience and credited interest
rates. We periodically perform cash flow studies under various interest rate
scenarios to evaluate the adequacy of expected cash flows from our assets to
meet the expected cash requirements of our liabilities. We utilize these
studies to determine if it is necessary to lengthen or shorten the average life
and duration of our investment portfolio. Because of the significant
uncertainties involved in the estimation of asset and liability cash flows,
there can be no assurance that we will be able to effectively manage the
relationship between our asset and liability cash flows. The statutory filings of our insurance subsidiaries require
classifications of investments and the establishment of an asset valuation
reserve, designed to stabilize a companys statutory surplus against
fluctuations in the market value of stocks and bonds, according to regulations
prescribed by the NAIC. The asset valuation reserve consists of two main
components: a default component to provide for future credit-related losses
on fixed income investments and an equity component to provide for losses on
all types of equity investments, including real estate. The NAIC requires an
additional reserve, called the interest maintenance reserve, which consists of
the portion of realized capital gains and losses from the sale of fixed income
securities attributable to changes in interest rates. The interest maintenance
reserve is required to be amortized against earnings on a basis reflecting the
remaining period to maturity of the fixed income securities sold. These
regulations affect the ability of our insurance subsidiaries to reflect
investment gains and losses in current period statutory earnings and surplus. The amounts related to Asset Valuation Reserve and Interest Maintenance
Reserve for our insurance subsidiaries at December 31, 2003 are summarized as
follows (in thousands): MaximumAsset
    
    Asset
    
    InterestValuation Reserve
    
    Valuation Reserve
    
    Maintenance ReserveStandard Life
    
    $
    3,751
    
    
    $
    9,307
    
    
    $
    17,974Dixie Life
    
    
    
    
    
    
    263
    
    
    
    
 The annual addition to the asset valuation reserve consists of a
factor-based basic contribution plus 20% of the difference between the reserve
objective and the accumulated balance. If the calculated reserve with current
year additions 12




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exceeds the maximum reserve amount, the reserve is reduced to the maximum
amount. For the year ended December 31, 2003, our insurance subsidiaries each
made the required contribution to the asset valuation reserve. Most jurisdictions require insurance companies to participate in guaranty
funds designed to cover claims against insolvent insurers. Insurers authorized
to transact business in these jurisdictions are generally subject to
assessments based on annual direct premiums written in that jurisdiction to pay
such claims, if any. These assessments may be deferred or forgiven under most
guaranty laws if they would threaten an insurers financial strength and, in
certain instances, may be offset against future state premium taxes. The
incurrence and amount of such assessments have increased in recent years and
may increase further in future years. The likelihood and amount of all future
assessments cannot be reasonably estimated and are beyond our control. As part of their routine regulatory oversight process, approximately once
every three to five years, state insurance departments conduct periodic
detailed examinations of the books, records and accounts of insurance companies
domiciled in their states. Standard Life had an examination during 2001 for the
five-year period ended December 31, 2000 and Dixie Life had an examination
during 2001 for the three-year period ended December 31, 2000. These final
examination reports were issued in 2002 with no adjustments to the statutory
statements required. The federal government does not directly regulate the insurance business.
However, federal legislation and administrative policies in several areas,
including pension regulation, age and sex discrimination, financial services
regulation and federal taxation, do affect the insurance business. In
addition, legislation has been introduced from time to time in recent years,
which, if enacted, could result in the federal government assuming a more
direct role in the regulation of the insurance industry. The GLB Act has left
the currently existing regime of state insurance regulation largely intact;
however, more comprehensive federal legislation in this area is still being
actively considered by Congress. Health Services Segment General Established in 2002, U.S. Health Services Corporation is deploying a
national health services distribution platform. U.S. Health Services
vertically integrates pharmaceutical care with the delivery of healthcare
services principally in the sub-acute, institutional segment of the healthcare
market; for example, skilled nursing facilities, assisted living facilities and
correctional facilities. In addition U.S. Health Services, through its
subsidiaries and operating units, acts as a wholesale drug
distributor/repackager and a pharmacy management solution to various sectors of
the veterinary care industry. Through long-term service contracts, we seek to
reduce revenue volatility and create additional opportunities to introduce
others, complimentary healthcare products and services. U.S. Health Services currently operates through its subsidiaries HomeMed
Channel, Inc., PCA, LLC, Apothecary Solutions Corporation, HomeDoc Corporation,
and Medical Care and Outcomes, LLC. Each of these subsidiaries services a
specific market in the pharmaceutical services sector. HomeMed Channel, Inc.,
through its divisions HomeMed Pharmacy and HomeMed Veterinary, operates as
direct-to-consumer retail and mail order pharmacy and veterinary pharmaceutical
manager and supplier. PCA, LLC is a wholesale drug distributor and repackager.
Apothecary Solutions Corporation, doing business as HomeMed Institutional
Pharmacy, contracts as a closed-door institutional pharmacy manager. HomeDoc
Corporation and Medical Care and Outcomes, LLC provide proprietary medical
diagnostic and compliance technologies to community pharmacists and national
pharmacy associations which allow them to safely, lawfully and confidentially
track prescribed drug and medical care regiments of individual patients, in
partnership with treating physicians, in order to enhance the continued
delivery of care. Marketing U.S. Health Services is organized around three key distribution engines:
Retail Pharmacy, Institutional Pharmacy and Veterinary Pharmacy. Supporting
each operating unit are technology platforms to facilitate customer
interaction, product fulfillment and point-of-care health management. We focus on serving the following customer populations:  
    
    Retail Consumers HomeMed Retail Pharmacy provides high
quality, affordable medications direct-to-consumers. 13




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
    
    Employers HomeMed Retail Pharmacy provides affordable
mail-order medications to employees of corporate clients.
    
    Medical Clinics PCA, LLC distributes re-packaged stock
medications to student health centers, physicians offices, urgent
care clinics and other point-of-care facilities to provide
convenience to consumers and ensure medication compliance from the
caregivers perspective.
    
    Veterinary Clinics HomeMed Veterinary Clinic distributes
re-packaged stock medications to animal clinics. Dispensing and
inventory management technology are a key element of the solution we
provide to veterinarians.
    
    Institutional Consumers HomeMed Institutional Pharmacy
provides medications and medical supplies to consumers living in
assisted living, skilled nursing, correctional and home care
settings. Compliance packaging ensures patient safety and enhances
therapy outcomes.
    
    Institutions HomeMed Institutional Pharmacy also works
directly with skilled nursing and licensed assisted living facilities
to provide resident medications and value-added pharmacy services
directly to the institution. Consultant pharmacists and specialized
IV nurses enhance patient care by assisting facility nursing staff
and helping coordinate medication management.
    
    Hospitals U.S. Health Services partners with hospitals to
implement retail pharmacy services. We leverage direct and indirect sales channels to acquire new customers.
An integrated customer care function ensures rapid response to customer needs
and field-level feedback to each of our operating units. Customer-focused
nurses and pharmacist consultants complete the cycle of care by staying close
to the consumers of our products. Growth Strategy We believe U.S. Health Services is well-positioned to benefit from a
rapidly growing population utilizing pharmacy services. The pharmacy industry
is currently in a state of flux and consolidation, providing opportunities for
selected acquisitions. Further, certain segments of healthcare have never been
consolidated, specifically, the assisted living, congregate care and home
health agency sectors. We believe that the continued expansion of our wholesale supply operations
in the high-growth, high-margin veterinary pharmaceutical segment can position
us as a unique virtual pharmacy manager for owners and operators of
veterinary clinics, which until now have been forced to manage their own
internal pet pharmacies as part of their medical practice or risk losing market
share to unaffiliated and unlicensed pet product distributors. Our intent to
partner with veterinarians using a clinic drug replenishment model, rather than
selling directly to consumers of pet pharmaceuticals without first engaging a
veterinarians involvement, successfully addresses substantial concerns in the
veterinary community about the appropriate medical level of care provided to
animals and the maintenance of a proper and ethical veterinarian-client
relationship. We believe that many of the growth opportunities available to us in the
health services area involve combining high-technology concepts with physician
provider, hospital, hospice, nursing, and clinical care settings. By providing
access to health services to clients regardless of whether they are located in
an institutional care facility or are receiving provider services out of their
own home, we believe we can build sustained brand and company loyalty among
patients at all levels of care. U. S. Health Services brings the benefits of a
seasoned, visionary and diverse management team, a highly skilled and
experienced staff, an existing proprietary technology base, and strong
relationships with customers and suppliers. Regulatory Factors The pharmaceutical industry has long been subject to regulation by various
federal, state and local agencies, primarily as to product manufacture, safety,
efficacy, advertising and labeling. In addition, governmental bodies in the
United States as well as other countries have expressed concern about costs
relating to health care, and in some cases, have focused attention on the
pricing of drugs and on appropriate drug utilization. Government regulation may
be expanded significantly in the United States in the future. We are unable to
predict the extent to which our business may be affected by future regulatory
developments. We continuously monitor the effects of such regulatory activity
on our operations. 14




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The nursing home pharmacy business has long operated under regulatory cost
containment pressures from both state and federal legislation primarily through
Medicaid and, to a lesser extent, Medicare. Medicaid has long-established
programs for reimbursement which have over time been revised and refined and
have not had a material adverse effect on the pricing policies or receivables
collection for nursing home pharmacy services. Any future changes in such
reimbursement programs or in regulations relating thereto, such as reductions
in the allowable reimbursement levels or the timing of processing of payments,
could adversely affect our business. Medicare has recently added a
prescription drug benefit which will be phased in gradually between 2004 and
2006 and which may also affect our business, although the extent of this effect
cannot be quantified at this time. We are subject to fraud and abuse laws which preclude, among other things,
(a) persons from soliciting, offering, receiving or paying any remuneration in
order to induce the referral of a patient for treatment or for inducing the
ordering or purchasing of items or services that are in any way paid for by
Medicare or Medicaid, and (b) physicians from making referrals to certain
entities with which they have a financial relationship. The fraud and abuse
laws and regulations are broad in scope and are subject to frequent
modification and varied interpretation. Institutional pharmacies as well as the long-term care facilities they
serve are subject to extensive federal, state and local regulation. These
regulations cover required qualifications, day-to-day operations and the
documentation of activities. All of our pharmacies are licensed in the states
in which they operate and are registered with the appropriate federal
authorities pursuant to the regulation of controlled substances. Competition The pharmaceutical distribution industry is a highly competitive and
fragmented industry, both regionally and nationally. In each of our market
segments, we compete with local, regional and national organizations focused on
similar customer groups. In the direct dispensing of pharmaceutical products
to end consumers, we compete with local and national retail, mail order and
institutional pharmacies as well as pharmacies owned by long-term care
facilities. We compete in this market based on competitive pricing, localized
services, value-added technologies and partnering initiatives that drive shared
revenue. In the pharmaceutical wholesale distribution and repackaging marketplace,
we compete with a number of local and national providers. We serve both human
medical clinics and veterinary medical clinics from a centralized distribution
facility thereby which puts us in two distinct competitive zones. There are
fewer competitors in the repackaging niches that we target, but they are highly
specialized. In the institutional and corporate services marketplace, we compete with a
number of large, national companies providing a broad mix of services to
hospitals, long-term care facilities and employer groups. We compete by
targeting narrow niches within these customer segments and providing highly
customized pharmaceutical product solutions. Highly focused services and
support coupled with profit-sharing business models make us an appealing
partner in these strategic relationships. No individual customer or market segment is critical to the total sales of
our products and services. Acquisition Strategy, Recent Acquisitions and Divestiture Acquisition Strategy  Financial Services A principal component of our strategy since 1999 has been internal organic
growth. However, we regularly investigate acquisition opportunities in the life
insurance industry that complement or are otherwise strategically consistent
with our existing business. Any decision to acquire a block of business or an
insurance company will depend on a favorable evaluation of various factors. We
believe that availability of blocks of business in the marketplace will
continue in response to ongoing industry consolidation, risk-based capital
requirements and other regulatory and rating agency concerns. We currently have
no plans or commitments to acquire any specific insurance business. We have information systems and administrative capabilities necessary to
add additional blocks of business without a proportional increase in operating
expenses. In addition, we have developed management techniques for reducing or
eliminating the expenses of the companies we acquire through the consolidation
of their operations. Such techniques include reduction or elimination of
overhead, including the acquired companys management, staff and home office,
elimination of marketing expenses and, where appropriate, the substitution of
Standard Lifes distribution network for the acquired companys current
distribution system, and the conversion of the acquired companys data
processing operations to our system. 15




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We typically acquire companies or blocks of business through the purchase
or exchange of shares. This method is also used for assumption reinsurance
transactions. Any future acquisitions may be subject to certain regulatory
approvals, policyholder consents and stockholder approval. Acquisition Strategy  Health Services Our acquisition strategy includes acquiring companies to distribute retail
and third party reimbursed pharmaceutical products and services. We have
identified several potential strategic acquisitions in the institutional
pharmacy industry. These potential acquisitions would also allow us to build
to critical mass in terms of both customers served and human and technological
capital. While we intend to grow this segment of the business quickly and on a
regional basis through acquisitions in the near term, we are also committed to
creating operational efficiencies in our existing operations in an attempt to
reduce expenses and increase economies available to us, so that our business
can grow organically as well. Described below are the acquisitions made since the commencement of our
health services segment. Effective February 6, 2004, our wholly-owned subsidiary, Apothecary
Solutions Corporation acquired certain assets of Alliance Center, Inc.
Apothecary Solutions is an institutional pharmacy. The purchase price was $3.6
million, and additional contingent consideration of up to $175,000 may be paid,
based on a percentage of outstanding accounts receivable collected. The
purchase was accounted for under the purchase method of accounting and resulted
in recognizing a preliminary goodwill amount of $1.2 million. Under purchase
accounting, we allocated the total purchase price of the assets and liabilities
acquired, based on a determination of the fair values and recorded the excess
of the acquisition cost over net assets acquired as goodwill. During 2003, we acquired Medical Care & Outcomes, LLC, for shares of
common stock. MCO provides an innovative tool for our health services segment
to acquire real-time patient data on compliance and therapeutic outcomes
following an office visit or hospital stay. The purchase was accounted for
under the purchase method of accounting and resulted in recognizing a
preliminary goodwill amount of $3.6 million. Under purchase accounting, we
allocated the total purchase price of the assets and liabilities acquired,
based on a determination of the fair values and recorded the excess of the
acquisition cost over net assets acquired as goodwill. In addition, in 2003, we acquired the business assets of MyDoc.com from
Roche Diagnostics Corporation and placed these assets into our wholly-owned
subsidiary, HomeDoc Corporation. HomeDoc Corporation is the first virtual
healthcare service where board-certified, state-licensed physicians are
available online, 24 hours per day / 7 days per week to diagnose and treat
common ailments and provide prescriptions. The purchase was accounted for
under the purchase method of accounting and resulted in recognizing a
preliminary goodwill amount of $645,000. During 2002, we acquired the pharmaceutical business of HomeMed Channel,
Inc. and PCA, LLC and the assets of Prescriptions by Mail, Inc. All three
acquisitions were accounted for under the purchase method of accounting. Divestiture- International Operations In 2002, we sold our International Operations which consisted of 100% of
the shares in Premier Life (Luxembourg) S.A. and the portfolio of Premier Life
(Bermuda) Limited to Winterthur Life, a division of Credit Suisse Group,
resulting in a gain from the sale of discontinued operations of $6.9 million.
With the net proceeds received from the sale, we made a $15 million capital
contribution to Standard Life, repaid $3.8 million in debt, and retained the
remaining $6.3 million for general corporate purposes. Employees As of February 29, 2004, we had 184 employees. We believe our future
success will depend, in part, on our ability to attract and retain
highly-skilled technical, marketing, support and management personnel. We
believe we have excellent relations with our employees. 
 Item 2. Properties In December 2001, we signed a promissory note and mortgage due December
31, 2011, with a current outstanding principal amount of $6.6 million at
December 31, 2003, used to finance our home office building consisting of
56,000 square 16




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##### Table of Contents



feet and located at 10689 North Pennsylvania Street, Indianapolis, Indiana.
Approximately 43,000 square feet of the building is leased to Standard Life
pursuant to a lease agreement entered into on December 28, 2001. The remaining
space is used by Standard Management and U.S. Health Services. We lease 10,000 square feet of space located at 2525 North Shadeland,
Indianapolis, Indiana for warehouse purposes. This lease expires on September
30, 2004. U.S. Health Services leases approximately 30,000 square feet in an office
building located at 6210 N. Technology Center Drive, Indianapolis, Indiana.
The lease expires April 2007. 
 Item 3. Legal Proceedings We are involved in various legal proceedings in the normal course of
business. In most cases, these proceedings involve claims under insurance
policies or other contracts. The outcome of these legal proceedings are not
expected to have a material adverse effect on the consolidated financial
position, liquidity, or future results of our operations based on our current
understanding of the relevant facts and law. 
 Item 4. Submission of Matters to a Vote of Securities Holders None. 17




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##### Table of Contents



Part II 
 Item 5. Market for our Common Stock and Related Stockholder Matters Our common stock trades on the NASDAQ National Market under the symbol
SMAN. The following table sets forth, for the periods indicated, the range of
the high and low sales prices of our common stock as reported by NASDAQ. We
have never paid cash dividends on our common stock. At the close of business on
February 29, 2004 there were approximately 3,000 holders of record of the
outstanding shares of our common stock. Although our common stock is traded on
NASDAQ, no assurance can be given as to the future price of or the markets for
the stock. Common StockHigh
    
    Low2003Quarter ended March 31, 2003
    
    $
    4.23
    
    
    $
    2.60Quarter ended June 30, 2003
    
    
    4.69
    
    
    
    3.12Quarter ended September 30, 2003
    
    
    4.65
    
    
    
    3.60Quarter ended December 31, 2003
    
    
    4.25
    
    
    
    3.112002Quarter ended March 31, 2002
    
    $
    6.76
    
    
    $
    4.20Quarter ended June 30, 2002
    
    
    9.00
    
    
    
    4.82Quarter ended September 30, 2002
    
    
    7.70
    
    
    
    4.37Quarter ended December 31, 2002
    
    
    4.95
    
    
    
    2.71
 Equity Compensation Plan Information In January 2002, the Securities and Exchange Commission adopted new rules
for the disclosure of equity compensation plans. The purpose of the new rules
is to summarize the potential dilution that could occur from past and future
equity grants under all equity compensation plans. The following provides
tabular disclosure of the number of securities to be issued upon the exercise
of outstanding options, the weighted average exercise price of outstanding
options, and the number of securities remaining available for future issuance
under our equity compensation plans. All of our equity compensation plans have
been approved by our shareholders. Number ofsecuritiesNumber of
    
    
    
    
    
    remainingsecurities to
    
    
    
    
    
    available forbe issued
    
    
    
    
    
    futureupon
    
    Weighted-average
    
    issuanceexercise of
    
    exercise price of
    
    under equityoutstanding
    
    outstanding
    
    compensationPlan Category
    
    options
    
    options
    
    plansEquity compensation plans approved by
security holders:1992 Stock Option Plan
    
    
    2,223,554
    
    
    $
    5.19
    
    
    
    2002 Stock Incentive Plan
    
    
    580,500
    
    
    
    4.40
    
    
    
    645,143
 18




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##### Table of Contents



Item 6. Selected Financial Data (Dollars
in thousands, except per share amounts and shares
outstanding)
 The following historical financial data was derived from our audited
Consolidated Financial Statements. This historical financial data should be
read in conjunction with Managements Discussion and Analysis of Financial
Condition and Results of Operations and our Consolidated Financial Statements
and related Notes. Year Ended December 312003
    
    2002
    
    2001
    
    2000
    
    1999STATEMENT OF INCOME DATA:Premium income
    
    $
    8,929
    
    
    $
    9,173
    
    
    $
    9,419
    
    
    $
    9,433
    
    
    $
    10,281Investment activity:Net investment income
    
    
    83,009
    
    
    
    75,839
    
    
    
    58,539
    
    
    
    50,278
    
    
    
    43,167Call option gains (losses)
    
    
    11,951
    
    
    
    (10,089
    )
    
    
    (5,906
    )
    
    
    (7,603
    )
    
    
    1,209Net realized investment gains (losses)
    
    
    17,876
    
    
    
    (19,841
    )
    
    
    (10,351
    )
    
    
    (4,492
    )
    
    
    78Total revenues
    
    
    132,647
    
    
    
    66,431
    
    
    
    66,770
    
    
    
    61,800
    
    
    
    65,768Interest expense and financing costs
    
    
    4,474
    
    
    
    4,351
    
    
    
    3,492
    
    
    
    3,416
    
    
    
    3,385Total benefit and expenses
    
    
    143,470
    
    
    
    83,756
    
    
    
    66,361
    
    
    
    58,524
    
    
    
    59,636Income (loss) before income taxes,
extraordinary loss, gain on sale of
discontinued operations and cumulative effect
of accounting change
    
    
    (10,823
    )
    
    
    (17,325
    )
    
    
    409
    
    
    
    3,276
    
    
    
    6,132Gain (loss) on sale of discontinued operations
    
    
    (275
    )
    
    
    6,872
    
    
    
    
    
    
    
    
    
    
    
    Cumulative effect of accounting change for
goodwill impairment
    
    
    
    
    
    
    (1,212
    )
    
    
    
    
    
    
    
    
    
    
    Net income (loss) from continuing operations
    
    
    (10,196
    )
    
    
    (9,070
    )
    
    
    214
    
    
    
    3,189
    
    
    
    4,006Net income (loss)
    
    
    (10,471
    )
    
    
    (1,130
    )
    
    
    1,780
    
    
    
    5,267
    
    
    
    5,272PER SHARE DATA:Net income (loss) from continuing operations
    
    $
    (1.27
    )
    
    $
    (1.19
    )
    
    $
    .03
    
    
    $
    .41
    
    
    $
    .53Net income (loss) from continuing operations,
assuming dilution
    
    
    (1.26
    )
    
    
    (1.14
    )
    
    
    .03
    
    
    
    .41
    
    
    
    .51Net income (loss), assuming dilution
    
    
    (1.30
    )
    
    
    (.14
    )
    
    
    .23
    
    
    
    .66
    
    
    
    .65Book value per common share
    
    
    8.93
    
    
    
    11.17
    
    
    
    9.30
    
    
    
    8.34
    
    
    
    6.85Weighted average common shares
outstanding, assuming dilution for
continuing operations
    
    
    8,135,814
    
    
    
    7,938,554
    
    
    
    7,765,378
    
    
    
    7,733,917
    
    
    
    7,813,694Common shares outstanding
    
    
    8,114,196
    
    
    
    7,854,674
    
    
    
    7,546,493
    
    
    
    7,545,156
    
    
    
    7,785,156BALANCE
SHEET DATA (at year end):Invested assets
    
    $
    1,685,016
    
    
    $
    1,405,807
    
    
    $
    952,754
    
    
    $
    742,463
    
    
    $
    637,321Assets of discontinued operations
    
    
    
    
    
    
    
    
    
    
    430,330
    
    
    
    548,730
    
    
    
    339,324Total assets
    
    
    1,973,871
    
    
    
    1,715,147
    
    
    
    1,613,653
    
    
    
    1,470,457
    
    
    
    1,150,977Mortgage payable
    
    
    6,795
    
    
    
    6,757
    
    
    
    6,900
    
    
    
    
    
    
    
    Notes payable
    
    
    21,000
    
    
    
    13,000
    
    
    
    19,100
    
    
    
    31,500
    
    
    
    34,500Trust preferred securities
    
    
    20,700
    
    
    
    20,700
    
    
    
    20,700
    
    
    
    
    
    
    
    Preferred stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    6,530
    
    
    
    6,530Shareholders equity
    
    
    72,447
    
    
    
    87,734
    
    
    
    70,189
    
    
    
    62,899
    
    
    
    53,360
 19




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##### Table of Contents



Item 7. Managements Discussion and Analysis of Financial Condition and Results
of Operations The following discussion highlights the principal factors affecting the
results of our operations and the significant changes in our balance sheet
items on a consolidated basis for the periods listed, as well as liquidity and
capital resources. This discussion should be read in conjunction with the
accompanying Consolidated Financial Statements, related Notes and Selected
Historical Financial Data. Forward-looking Statements All statements, trend analyses, and other information contained in this
Annual Report on Form 10-K or any document incorporated by reference herein
relative to markets for our products and trends in our operations or financial
results, as well as other statements including words such as anticipate,
believe, plan, estimate, expect, intend and other similar
expressions, constitute forward-looking statements under the Private Securities
Litigation Reform Act of 1995. These forward-looking statements are subject to
known and unknown risks, uncertainties and other factors, which may cause
actual results to be materially different from those contemplated by the
forward-looking statements. Such factors include, but are not limited to:  
    
    General economic conditions and other factors, including prevailing
interest rate levels, and stock market performance, which may affect our
ability to sell products, the market value of our investments and the
lapse rate and profitability of our policies.
    
    Our ability to achieve anticipated levels of operational efficiencies
at recently acquired companies, as well as through other cost-saving
initiatives.
    
    Customer response to new products, distribution channels and marketing initiatives.
    
    Mortality, morbidity and other factors which may affect the profitability of our insurance products.
    
    Changes in the federal income tax laws and regulation which may
affect the relative tax advantages of some of our products.
    
    Increasing competition in the sale of our products.
    
    Regulatory changes or actions, including those relating to regulation
of financial services affecting bank sales and underwriting of insurance
products, regulation of the sale, underwriting and pricing of insurance
products.
    
    The availability and terms of future acquisitions.
    
    The risk factors or uncertainties listed from time to time in any document incorporated by reference herein. Overview We specialize in the sale of individual annuities. Under accounting
principles generally accepted in the United States, or GAAP, premium
collections for deferred annuities are reported as insurance policy liabilities
instead of as revenues. Sources of revenues for products accounted for as
insurance policy liabilities are net investment income, surrender charges
deducted from the account balances of policyholders in connection with
withdrawals, realized gains and losses on investments and call option income.
Components of expenses for products accounted for as insurance policy
liabilities are interest credited to account balances, amortization of deferred
policy acquisition costs, and other operating costs and expenses. 20




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##### Table of Contents



Earnings from products accounted for as insurance policy liabilities are
primarily generated from the excess of net investment income earned over the
interest credited to the policyholder, or the investment spread. Our
investment spread is summarized as follows as of December 31: 2003
    
    2002
    
    2001Net investment yield on invested assets
    
    
    5.34
    %
    
    
    6.53
    %
    
    
    7.14
    %Weighted average effective crediting rate
    
    
    3.84
    
    
    
    4.50
    
    
    
    4.53Investment Spread
    
    
    1.50
    
    
    
    2.03
    
    
    
    2.61
 Our profitability depends in large part upon the amount of assets under
our management, investment spreads we earn on our policyholders account
balances, our ability to manage our investment portfolio to maximize returns
and minimize risks such as interest rate changes, defaults or impairment of
assets, our ability to manage costs of the options purchased to fund the
interest credits on our index annuities, our ability to manage the costs of
acquiring new business (principally commissions to agents and first year
bonuses credited to policyholders) and our ability to manage our operating
expenses. The weighted average effective credited rate represents interest on
interest sensitive liabilities, including equity indexed annuities, offset by
gains on call option assets used to hedge equity indexed annuity liabilities. Product Profitability - Financial Services The long-term profitability of life insurance and annuity products depends
on the accuracy of the actuarial assumptions that underlie the pricing of such
products. Actuarial calculations for such insurance products, and the ultimate
profitability of such products, are based on four major factors: 1)
persistency, 2) mortality, 3) return on cash invested by the insurer during the
life of the policy and 4) expenses of acquiring and administering the policies. Interest spreads represent a major profit source on annuity and interest
sensitive life products. Margins on these products are sensitive to interest
rate fluctuations. In general, we are able to maintain spreads by adjusting
credited interest rates for changes in our earned rates, subject to competitive
and timing constraints. However, there are corollary effects of interest rate
changes. Rising interest rates result in a decline in the market value of assets,
and also tend to result in increased policyholder surrenders as other
investment options become relatively more attractive. The effect of increased
surrenders is to reduce earnings over the long term. Current period earnings
effect may vary depending on the level of surrender charges and deferred policy
acquisition costs, or DAC, and present value of future profits, or PVFP. In
addition, increasing interest rates give rise to disintermediation risk, the
risk that assets must be sold at depressed values in order to fund increased
surrender payments. This risk is mitigated by properly matching assets and
liabilities. We seek to closely match the estimated duration of our invested assets to
the expected duration of our liabilities. When the estimated durations of
assets and liabilities are similar, exposure to interest rate risk is minimized
because a change in the value of assets should be largely offset by a change in
the value of liabilities. A significant mismatch of the durations of invested
assets and liabilities could have an impact on our future financial results. Declining interest rates generally have little immediate effect on our
investment earnings rates. Over time, as we invest positive cash flows at lower
rates, our earned rates decline. In such an environment, we attempt to adjust
credited interest rates accordingly, subject to competitive pressures. In most
situations, this action allows us to maintain our margins. However, the
sustained period of low interest rates may impact future interest spreads,
results of operations and financial condition. The average expected remaining life of Standard Lifes traditional life
and annuity business in force at December 31, 2003 was 7.2 years. This
calculation was determined based upon our actuarial models and assumptions as
to expected persistency and mortality. Persistency is the extent to which
insurance policies sold are maintained by the insured. The persistency of life
insurance and annuity products is a critical element of their profitability.
However, a surrender charge often applies in the early contract years and
declines to zero over time. Life insurance policyholders sometimes do not pay premiums, thus causing
their policies to lapse. For the years 2003, 2002 and 2001 Standard Life
experienced total policy lapses, excluding surrenders, of 3.1%, 3.4% and 3.7%
of total 21




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##### Table of Contents



policies in force at December 31 of each year, respectively. Ongoing
premiums are not required for annuity policies, so annuities do not experience
policy lapses. Variances
Between Actual and Expected Profits. Actual experience on
purchased and produced insurance may vary from projections due to differences
in renewal premiums collected, investment spreads, mortality costs,
persistency, administrative costs and other factors. Variances from original
projections, whether positive or negative, are included in net income as they
occur. To the extent that these variances indicate that future experience will
differ from the estimated profits reflected in the capitalization and
amortization of the PVFP and DAC assets, current and future amortization rates
may be adjusted. Product Accounting Present
Value of Future Profits. In accordance with industry practice,
when we purchase a block of existing insurance business, we assign a portion of
the purchase price, PVFP, as the pre-tax value of the business acquired. The
asset is the discounted value of future cash flows arising from the existing
block of business. The discount rate used is based upon many elements, such as
yields generated on similar business, our cost of capital and the interest rate
environment as of the purchase date. Discount rates used in determining our
PVFP assets range from 8% to 18%. After purchase, amortization of the asset occurs in proportion to profits
emerging from the purchased policies. The asset is amortized over the expected
life of the block of business. The percentages of expected net amortization of
the beginning balance of the total PVFP asset as of December 31, 2003 are
expected to be between 9% and 14% in each of the years 2004 through 2008. Deferred
Policy Acquisition Costs. Insurance policies issued after the
purchase date of a company will generate significant costs that vary directly
with and relate to the acquisition of the new business. Under GAAP, these
acquisition costs on new policies are to be capitalized and recorded as DAC.
For universal and interest sensitive life and annuity products, the DAC asset
is amortized in proportion to estimated gross profits over the life of the
contract. For immediate annuities, DAC is amortized so as to produce a
constant yield on the net policyholder liability. Virtually all of our DAC is
a result of writing annuity products. Amortization of DAC related to operations was $22.9 million, $19.0 million
and $10.7 million for the years ended December 31, 2003, 2002 and 2001,
respectively. The increase in current year amortization expense resulted
primarily from the emergence of gross profits from business sold in recent
years and the acceleration of DAC amortization due to DAC unlocking. Future
expected amortization of DAC, assuming no new business after December 31, 2003
and current assumptions, is as follows (in thousands): 2004
    
    2005
    
    2006
    
    2007
    
    2008Gross amortization
    
    $
    26,665
    
    
    $
    24,033
    
    
    $
    20,299
    
    
    $
    16,732
    
    
    $
    13,988Interest accumulation
    
    
    3,722
    
    
    
    2,996
    
    
    
    2,427
    
    
    
    1,958
    
    
    
    1,564Net amortization
    
    $
    22,943
    
    
    $
    21,037
    
    
    $
    17,872
    
    
    $
    14,774
    
    
    $
    12,424
 Accounting
for Deferred Annuities and Universal and Interest-Sensitive
Life Products. We primarily account for our deferred annuity, universal and
interest-sensitive life policy deposits in accordance with Statement of
Financial Accounting Standards No. 97 (SFAS No. 97), Accounting and
Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for
Realized Gains and Losses on the Sale of Investments. Under SFAS No. 97, a
benefit reserve is established at the time of policy issuance in an amount
equal to the deposits received. Thereafter, the benefit reserve is adjusted for
any additional deposits, interest credited and partial or complete withdrawals.
Revenues for annuities and universal and interest-sensitive life policies,
other than certain non-interest sensitive annuities, consist of policy charges
for surrenders and partial withdrawals, mortality and administration, and
investment income earned. These revenues do not include the annuity, universal
and interest-sensitive life policy deposits. Expenses related to these products
include interest credited to policyowner account balances, operating costs for
policy administration, amortization of DAC and mortality costs in excess of
account balances. Costs relating to the acquisition of new business, primarily commissions
paid to agents, which vary with and are directly related to the production of
new business, are deferred to the extent that such costs are recoverable from
future profit margins. At the time of issuance, the acquisition expenses,
approximately 10% of our initial annuity premium deposits are capitalized as
DAC. In accordance with SFAS No. 97, DAC with interest is amortized over the
lives of the policies in a constant relationship to the present value of
estimated future gross profits. 22




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##### Table of Contents



Accounting
for Equity Indexed Annuities. Revenues and expenses for
equity-indexed annuities are recognized in accordance with the SFAS No. 97
model, described above. Policy liabilities for equity-indexed annuities are
computed in accordance with SFAS No. 133, which requires that an equity-indexed
annuity liability be bifurcated into a host contract and a derivative
contract. The host contract liability is a book value liability providing for
the equity-indexed annuity policys guaranteed benefits. The derivative
contract liability is a market value liability providing for the equity-linked
benefits available in the policy. The derivative liability includes a liability
for equity-linked benefits accruing during the current contract year, as well
as liability amounts for future equity benefits which have not yet been
granted. Accounting
for Traditional Life Products. Traditional life insurance
products are accounted as long-duration insurance contracts in accordance with
Statement of Financial Accounting Standards No. 60 (SFAS No. 60), Accounting
and Reporting by Insurance Enterprises. Under SFAS No. 60, benefit reserves
are actuarially calculated using the net level reserve method. Revenues consist
of policy premiums and investment income on assets supporting policy
liabilities. Expenses consist of policy benefits incurred, increases in policy
liabilities, and operating costs for policy administration, and amortization of
DAC. Costs related to the acquisition of new business, primarily commissions
paid to agents, which vary with and are directly related to the production of
new business, are deferred to the extent that such costs are recoverable from
future profit margins. At the time of issuance, the acquisition expenses are
capitalized as DAC. In accordance with SFAS No. 60, DAC with interest is
amortized over the lives of the policies in a constant relationship to policy
premiums. Accounting
for Immediate Annuities. Immediate annuities with no life
contingent payments, which comprise the majority of our immediate annuities in
force and the majority of new immediate annuity sales, are accounted as
investment contracts in accordance with FAS No. 97. Revenues consist of
investment income, and expenses consist of the imputed interest credits to
policies as well as operating costs for policy administration. An initial net
premium policy liability is established as initial premium less acquisition
costs. The imputed credited rate is the rate, which equates this net premium to
the guaranteed payments. After issue, the liability changes by the amount of
imputed interest credits and benefit payments. For balance sheet purposes, this
net premium liability is presented as a gross premium liability offset by a DAC
asset. Immediate annuities with payments contingent on the survival of the
annuitant are accounted as limited-payment contracts in accordance with FAS No.
60, with revenue recognition, expense recognition, and liabilities computed as
described above for traditional life products. Critical Accounting Policies The accounting polices described below require us to make significant
estimates and assumptions using information available at the time the estimates
are made. Such estimates and assumptions significantly affect various reported
amounts of assets and liabilities. We have made estimates in the past that we
believed to be appropriate but were subsequently revised to reflect actual
experience. If our future experience differs materially from these estimates
and assumptions, our results of operations and financial condition could be
affected. Accordingly, we consider them to be critical in preparing our
consolidated financial statements. A more detailed description of our
accounting policies is included in the Notes to our Consolidated Financial
Statements. Investments The carrying value of our investment portfolio was $1.7 billion in
Financial Services at December 31, 2003. The accounting risks associated with
these assets relate to the recognition of income, our determination of
other-than-temporary impairments and our estimation of fair values. We amortize premiums and discounts as yield adjustments over the
contractual lives of fixed maturity securities. We consider anticipated
prepayments on mortgage-backed securities in determining estimated future
yields on such securities. When we sell a security, we report the difference between the sales
proceeds and amortized cost (determined based on specific identification) as an
investment gain or loss. We periodically evaluate whether the declines in fair value of our
investments are other-than-temporary. Our evaluation consists of a review of
qualitative and quantitative factors. We also consider additional factors to
determine whether the declines in fair value are other-than-temporary, such as
downgrades of the security by a rating agency, deterioration in the financial
condition of the issuer, and other publicly available issuer-specific news or
general market conditions. For investments in companies with no quoted market
price, we consider similar qualitative and quantitative 23




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##### Table of Contents



factors and also take into account the cost of the investment, the type of
investment, subsequent purchases of the same or similar investments, the
current financial position and operating results of the company invested in,
and such other factors as may be relevant. Declines in fair values of
securities deemed to be other-than-temporary are recognized as a reduction of
net income. Determining what constitutes an other-than-temporary decline involves
significant judgment. Declines in fair value below cost not considered
other-than-temporary in the current period could be considered
other-than-temporary in a future period and reduce earnings to the extent of
the write-down. Estimated fair values for our investments are determined based on
estimates from nationally recognized pricing services, broker-dealer market
makers, and internally developed methods. Our internally developed methods
require us to make judgments about the securitys credit quality, liquidity and
market spread. Equity indexed call options are derivative instruments linked to the major
stock indices (S&P 500 Index and DJIA Index) which are used to hedge the equity
benefits of our equity indexed annuity products. We purchase call options whose
payoff characteristics mirror the equity benefits of our products. These
securities are carried at fair value and the change in fair value is included
in net investment income. DAC and PVFP The combined balance of our DAC and PVFP was $182.9 million. The recovery
of these costs is dependent on the future profitability of the related business
at December 31, 2003. Each year, we evaluate the recoverability of the unamortized balance of
the DAC and PVFP. We consider estimated future gross profits or future
premiums, expected mortality or morbidity, interest earned and credited rates,
persistency and expenses in determining whether the balance is recoverable. If
we determine a portion of the unamortized balance is not recoverable, it is
charged to amortization expense. The assumptions we use to amortize and evaluate the recoverability of the
DAC and PVFP involve significant judgment. A significant revision to these
assumptions will impact future financial results. We recorded a charge of $7.9
million and $7.8 million for 2003 and 2002, respectively, related to the
acceleration of DAC amortization due to DAC unlocking. Goodwill and Intangible Assets The balance of our goodwill and intangible assets was $11.0 million at
December 31, 2003. The recovery of this asset is dependent on the fair value
of the business to which it relates. Effective in 2002, pursuant to SFAS No.
142, Goodwill and Other Intangible Assets (SFAS No. 142), goodwill is no
longer amortized but is subject to annual impairment tests based on the
estimated fair value of the business units.
There are numerous assumptions and estimates underlying the determination of
the estimated fair value of these businesses. Different valuation methods and
assumptions can produce significantly different results that could affect the
amount of any potential impairment charge that might be required to be
recognized. A charge of $1.2 million resulting from the impairment of goodwill
from the adoption of SFAS No. 142 was recorded in 2002 in the Financial
Services segment. Income Taxes Our income tax expense includes deferred income taxes arising from
temporary differences between the financial reporting and tax basis of assets
and liabilities and capital loss carryforwards. We have gross deferred income
tax assets of $60.2 million at December 31, 2003. In assessing the realization
of our deferred income tax assets, we consider whether it is more likely than
not that the deferred income tax assets will be realized. The ultimate
realization of our deferred income tax assets depends upon generating future
taxable income during the periods in which our temporary differences become
deductible and capital gains before our capital loss carryforwards expire. We
evaluate the recoverability of our deferred income tax assets by assessing the
need for a valuation allowance on a quarterly basis. If we determine that it
is more likely than not that our deferred income tax assets will not be
recovered, a valuation allowance will be established against some or all of our
deferred income tax assets. This could have a significant effect on our future
results of operations and financial position. A $3.0 million valuation allowance has been provided on certain
operating loss carryforwards in Health Services at December 31, 2003. We
reached this conclusion after considering the availability of taxable income in
prior carryback years, tax planning strategies, and the likelihood of future
taxable income exclusive of reversing temporary differences and 24




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##### Table of Contents



carryforwards. Differences between forecasted and actual future operating
results could adversely impact our ability to realize our deferred income tax
assets. Liabilities for Insurance Products The total balance of our liabilities for insurance products was $1.84
billion at December 31, 2003. These liabilities are often payable over an
extended period of time and the profitability of the related products is
dependent on the pricing of the products and other factors. Differences
between pricing assumptions and actual experience will impact future financial
results. We calculate and maintain reserves for the estimated future payment of
claims to our policyholders based on actuarial assumptions. These assumptions
are generally best estimates, with moderate provision for adverse deviation.
Many factors can affect the adequacy of these reserves and liabilities, such as
economic and social conditions, inflation, changes in doctrines of legal
liability and extra contractual damage awards. Therefore, the reserves and
liabilities we establish are necessarily based on extensive estimates,
assumptions and historical experience. Establishing reserves is an uncertain
process, and it is possible that actual claims will materially exceed our
reserves and have a material adverse effect on our results of operations and
financial condition. Our financial results depend significantly upon the
extent to which our actual claims experience is consistent with the assumptions
we used in determining our reserves and pricing our products. If our
assumptions with respect to future claims are incorrect, and our reserves are
insufficient to cover our actual losses and expenses, we would be required to
increase our liabilities, negatively affecting our operating results. Liabilities for Loss Contingencies Related to Legal Proceedings We are involved in various legal proceedings in the normal course of
business. The ultimate outcome of these legal proceedings cannot be predicted
with certainty. We recognize an estimated loss from these loss contingencies
when we believe it is probable that a loss has been incurred and the amount of
the loss can be reasonably estimated. However, it is difficult to measure the
actual loss that might be incurred related to legal proceedings. The ultimate
outcome of these lawsuits is not expected to have a material adverse effect on
our consolidated results of operations and financial position based on our
current understanding of the relevant facts and laws. 25




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##### Table of Contents



Results
of operations by segment for the three years ended December 31, 2003: Consolidated Results and Analysis 2003
    
    2002
    
    2001Income (loss) from continuing operations
    
    $
    (10,196
    )
    
    $
    (7,858
    )
    
    $
    214Discontinued operations:Income from discontinued operations (less
taxes of $0, $550 and $(185))
    
    
    
    
    
    
    1,068
    
    
    
    1,566Gain (loss) from the sale of discontinued
operations (less taxes of $0, $4,125 and
$0)
    
    
    (275
    )
    
    
    6,872
    
    
    
    Income (loss) from discontinued operations
    
    
    (275
    )
    
    
    7,940
    
    
    
    1,566Cumulative effect of accounting change
for goodwill impairment
    
    
    
    
    
    
    (1,212
    )
    
    
    Net income (loss)
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,780
 Loss from Continuing Operations  2003 Net loss from continuing operations for 2003 was $10.2 million, or $1.26
per diluted share, compared to a loss of $7.9 million, or $.99 per diluted
share for 2002. Financial
Services: Net loss for 2003 was $.2 million, compared to a $5.3
million net loss for 2002. The 2003 net loss included net realized investment
gains of $7.9 million, charges of accelerated amortization of DAC of $5.2
million on fixed annuity products, reduced spread income of $2.6 million due to
the decline in net investment income yield, which has declined faster than we
were able to reduce credited rates on our in-force business, and $.8 million
associated with lower expense capitalization due to reduced new business
writings. The loss for 2002 included net realized investment losses of $5.9
million, accelerated amortization of DAC of $5.1 million, reserve strengthening
of $1.5 million, the write-off of an agency receivable balance of $.8 million,
and tax benefits of $2.5 million. Net loss for the fourth quarter of 2003 was $5.0 million, compared to net
income of $3.6 million in the fourth quarter of 2002. Impacting the 2003
quarter was the same charges for the accelerated amortization of DAC, lower
expense capitalization due to reduced new business writings of $.3 million, and
reduced spread income of $.3 million. The 2002 quarter was impacted by net
realized investment gains of $.7 million, the write-off of an agency receivable
balance of $.2 million, and tax benefits of $1.2 million. Health
Services: Net loss for 2003 was $7.2 million, compared to a loss
of $1.2 million for 2002. The 2003 loss included expenses associated with the
continued development of U. S. Health Services operating platform and
infrastructure, as well as ongoing concentrated marketing initiatives. Also,
2003 results were reduced by $3.0 million as a result of recording a valuation
allowance on the tax benefits on this segments operating loss. Other
Services: Net loss for 2003 was $2.8 million, compared to a net
loss of $1.4 million for 2002. The results for 2003 were negatively impacted by
a higher effective tax rate and the reduced net commission income due to the
sale of a small marketing service subsidiary which period over period impact
the results by $1.8 million, and $1.2 million, respectively. Also impacting
2003, was deferred debt write-offs associated with recent refinancing
activities of $.3 million. The results for 2002 were negatively impacted from
net realized investment losses of $1.0 million. Loss from Discontinued Operations  2003 Net loss from discontinued operations for 2003 was $.3 million, due to our
settling a purchase price adjustment on the sale of our International
Operations. 26




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##### Table of Contents



Financial Services: 2003
    
    2002
    
    2001(Dollars in thousands)Premiums and deposits collected:Deferred annuities
    
    
    129,391
    
    
    
    320,647
    
    
    
    178,238Equity-indexed annuities
    
    
    125,302
    
    
    
    126,743
    
    
    
    67,159Single premium immediate annuities and other deposits
    
    
    165,797
    
    
    
    151,525
    
    
    
    76,435Universal and interest-sensitive life
    
    
    542
    
    
    
    601
    
    
    
    641Subtotal  interest-sensitive and other financial products
premium deposits
    
    
    421,032
    
    
    
    599,516
    
    
    
    322,473Traditional life
    
    
    8,929
    
    
    
    9,173
    
    
    
    9,419Total premiums and deposits collected
    
    $
    429,961
    
    
    $
    608,689
    
    
    $
    331,892Statement of Operations:Premium income
    
    $
    8,929
    
    
    $
    9,173
    
    
    $
    9,419Policy income
    
    
    10,839
    
    
    
    8,084
    
    
    
    7,721Total policy related income
    
    
    19,768
    
    
    
    17,257
    
    
    
    17,140Net investment income
    
    
    82,904
    
    
    
    75,823
    
    
    
    58,577Net investment income  affiliated
    
    
    220
    
    
    
    253
    
    
    
    250Call option gains (losses)
    
    
    11,951
    
    
    
    (10,089
    )
    
    
    (5,906
    )Fee and other income
    
    
    336
    
    
    
    742
    
    
    
    1,011Total revenues
    
    
    115,179
    
    
    
    83,986
    
    
    
    71,072Benefits and claims
    
    
    12,942
    
    
    
    9,938
    
    
    
    12,478Interest credited to interest sensitive annuities and other
financial products
    
    
    71,600
    
    
    
    42,650
    
    
    
    30,227Amortization
    
    
    24,335
    
    
    
    20,489
    
    
    
    8,889Commission expense (income)
    
    
    (3
    )
    
    
    422
    
    
    
    371Operating expenses
    
    
    8,407
    
    
    
    6,717
    
    
    
    6,231Operating expenses  affiliated
    
    
    5,454
    
    
    
    4,854
    
    
    
    4,700Interest
expense and financing costs - affiliated
    
    
    1,675
    
    
    
    1,800
    
    
    
    2,464Total benefits and expenses
    
    
    124,410
    
    
    
    86,870
    
    
    
    65,360Operating income (loss) before income taxes
    
    
    (9,231
    )
    
    
    (2,884
    )
    
    
    5,712Federal income tax expense (benefit)
    
    
    (3,611
    )
    
    
    (3,486
    )
    
    
    1,624Operating income (loss) after income taxes
    
    
    (5,620
    )
    
    
    602
    
    
    
    4,088Net realized investment gains (losses), net of related amortization and income taxes
    
    
    5,433
    
    
    
    (5,919
    )
    
    
    (3,456
    )Cumulative effect of accounting change for goodwill impairment
    
    
    
    
    
    
    (1,212
    )
    
    
    Net income (loss)
    
    $
    (187
    )
    
    $
    (6,529
    )
    
    $
    632Supplemental Information:Number of annuity contracts in force
    
    
    34,424
    
    
    
    38,194
    
    
    
    28,482Interest-sensitive annuity and other financial product reserves, net of reinsurance ceded
    
    $
    1,640,132
    
    
    $
    1,422,628
    
    
    $
    926,539Number of life policies in force
    
    
    44,348
    
    
    
    50,791
    
    
    
    53,005Life insurance in force, net of reinsurance ceded
    
    $
    646,320
    
    
    $
    618,430
    
    
    $
    744,569
 27




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##### Table of Contents



General:
Our Financial Services segment consists of revenues earned and
expenses incurred from our insurance operations. Our primary products include
deferred annuities, equity-indexed annuities and single premium immediate
annuities. The profitability of this segment is primarily a function of net
investment spread (the difference between the investment income earned on our
investments less the interest we credit to our policyholders), persistency of
the in force business, mortality experience and management of our operating
expenses. Premium
deposits consist of deposits from our flexible premium deferred
annuities, equity-indexed annuities, single premium immediate annuities and
other financial products that do not incorporate significant mortality
features. Under GAAP, these premium deposits are not shown as premium income in
the income statement. A change in premium deposits in a single period does not
directly cause our operating income to change, although continued increases or
decreases in premiums may affect the growth rate of assets on which investment
spreads are earned.  
    
    Premium deposits for 2003 decreased $178.5 million or 30%, to $421.0
million. Deferred annuities decreased $191.3 million or 60%, to $129.3
million. Equity indexed annuities decreased $1.4 million or 1%, to
$125.3 million. Single premium immediate annuities and other deposits
increased $14.3 million or 9%, to $165.8 million.
    
    Premium deposits for 2002 increased $277 million or 86%, to $599.5
million. Deferred annuities increased $142.4 million or 80%, to $320.6
million. Equity indexed annuities increased $59.6 million or 89%, to
$126.7 million. Single premium immediate annuities and other deposits
increased $75.1 million or 98%, to $151.5 million. Premium deposits decreased in 2003 due to management actions to preserve
spread income in response to market conditions. These actions included reducing
crediting rates, lowering agent commissions, and temporarily suspending sales
of selected products. Premium
income consists of premiums earned from 1) traditional life
products and 2) annuity products that incorporate significant mortality
features.  
    
    Premium income for 2003 decreased $.2 million or 3%, to
$8.9 million.
    
    Premium income for 2002 decreased $.2 million or 3%, to $9.2 million. Premium income decreased during 2003 and 2002 as a result of policy lapses
and surrenders. Policy
income represents 1) mortality income and administrative fees
earned on universal life products and 2) surrender income earned as a result of
terminated universal life and annuity policies.  
    
    During 2003, policy income increased $2.8 million or 34%, to $10.8 million.
    
    During 2002, policy income increased $.4 million or 5%, to $8.1 million. Policy income increased during 2003 and 2002 as a result of an increase in
policy surrender charges. Net
investment income includes interest earned on invested assets and
fluctuates with changes in 1) the amount of average invested assets supporting
insurance liabilities and 2) the average yield earned on those invested assets.  
    
    During 2003, net investment income increased $7.1 million or 9% to
$82.9 million. Average cash and invested assets, at book value,
increased by $348.6 million or 29% due to the growth in insurance
liabilities from annuity sales in recent periods.
    
    During 2002, net investment income increased $17.3 million or 29% to
$75.8 million. Average cash and invested assets, at book value,
increased by $347.2 million or 39% due to the growth in insurance
liabilities from annuity sales in recent periods.
    
    Our net investment yield for 2003 was 5.34%. Our net investment
yield for 2002 was 6.53%. 28




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##### Table of Contents




    
    The decline in net investment yield for 2003 and 2002 resulted from
investing new funds generated from annuity sales, from principal
repayments, and from the sale of securities during this historically low
interest rate environment at interest rates lower than the average
portfolio rate. Call
option gains (losses)relate to equity-indexed products that are
hedged with call options to limit risk against unusually high crediting rates
from favorable returns in the equity market. The market value of these options
fluctuate from period to period and are substantially offset by amounts
credited to policyholder account balances.  
    
    During 2003, call option gains increased by $22.0 million to $12.0 million.
    
    During 2002, call option losses increased by $4.2 million or 71%, to $10.1 million. The increase in call option income for the 2003 period resulted from
changes in the market value of our call options due to changes in the S&P 500
Index and the DJIA Index. See Interest credited to interest sensitive annuities and other financial
products below for additional information regarding the impact of our
equity-indexed products. Fee and other incomeconsist of fee income related to servicing
unaffiliated blocks of business and commission income.  
    
    During 2003, fee and other income decreased by $0.4 million or 55% to
$0.3 million. This decrease results from the termination of a marketing
and administration contract in 2002.
    
    During 2002, fee and other income decreased by $0.3 million or 27% to
$0.7 million. This decrease results from the termination of a marketing
and administration contract in 2002. Benefits and claimsinclude 1) mortality experience, 2) benefits from other
policies that incorporate significant mortality features and 3) changes in
future policy reserves. Throughout our history, we have experienced periods of
higher and lower benefit claims. Such volatility is not uncommon in the life
insurance industry and, over extended periods of time, periods of higher claim
experience tend to offset periods of lower claim experience.  
    
    Benefits and claims in 2003 increased by $3.0 million or 30%, to
$13.0 million. Benefits and claims were higher in 2003 primarily due to
increased death claims and other benefits for our in-force life policies
and increased benefit payments for our supplemental contracts including
life contingencies.
    
    Benefits and claims in 2002 decreased by $2.5 million or 20%, to $9.9
million. This decrease includes the impact from favorable mortality of
$.5 million compared to the 2001 period. Interest credited to interest sensitive annuities and other financial
productsrepresents interest credited to insurance liabilities of deferred
annuities, equity-indexed annuities, single premium immediate annuities and
other financial products. This expense fluctuates with changes in 1) the
average interest-sensitive insurance liabilities, 2) the average credited rate
on those liabilities and 3) the market value fluctuations of call options.  
    
    In 2003, interest credited increased $29.0 million to $71.6 million,
of which $23.0 million related to equity indexed annuity products and
the remaining $48.6 million related to all other interest sensitive
annuity and life insurance products. Interest credited increased $22.0
million due to the impact of improved equity market performance on
equity products. Interest credited increased $12.5 million due to a 33%
increase in average interest sensitive liabilities of $381 million
compared to 2002, partially offset by $5.5 million of reductions due to
reduced crediting rates.
    
    In 2002, interest credited increased $12.4 million or 41%, to $42.6
million due to a 48% increase in average interest sensitive liabilities
of $384.0 million compared to 2001, partially offset by a reduction in
credited rates. In addition, interest credited decreased $1.8 million
as a result of market value changes of call options supporting our
equity-indexed products. Reserve strengthening actions increased
interest credited by $2.4 million. 29




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##### Table of Contents




    
    The weighted average credited rate on interest sensitive liabilities,
including equity-indexed annuities, for 2003 and 2002 were 4.62% and
3.63%, respectively. The increase in average credited rate was due to
the impact of improved equity market performance on equity indexed
annuity crediting rates. When offset by gains on call option assets
used to hedge equity-indexed annuity liabilities, the effective
crediting rates for 2003 and 2002 were 3.84% and 4.50%, respectively, a
reduction of .66% from the prior period. Amortizationincludes 1) amortization of deferred policy acquisition costs
related to capitalized costs of insurance business sold, 2) amortization
related to the present value of polices purchased from acquired insurance
business and 3) amortization of goodwill for the 2001 period.  
    
    Amortization in 2003 increased by $3.8 million or 19%, to $24.3
million. This increase relates primarily to higher annuity sales volume,
offset by lower gross profits. We recorded a charge of $7.9 million and
$7.8 million for 2003 and 2002, respectively, related to the
acceleration of DAC amortization due to DAC unlocking.
    
    Amortization in 2002 increased by $11.6 million or 130%, to $20.5
million. This increase relates primarily to a $7.8 million acceleration
of DAC amortization due to DAC unlocking and the emergence of gross
profits from business sold in recent years. Acquisition costs for deferred annuity contracts and equity-indexed
annuity contracts are required to be amortized over the lives of the contracts
in relation to the incidence of estimated gross profits. Estimated gross
profits on fixed and equity-indexed annuity contracts include investment
spread, surrender income, expense margins, and realized investment gains and
losses. Gross profit estimates are evaluated regularly, with historical gross
profit estimates adjusted to actual results and projected gross profit
estimates updated to reflect current expectations. DAC amortization is
adjusted both retrospectively and prospectively (unlocked) in accordance with
the revised profit stream, and retrospective adjustments are reported in the
current reporting period. Commission expensesrepresent commission expenses, net of deferrable
amounts.  
    
    During 2003, commission expenses decreased $0.4 million to $3,000,
primarily due to the termination of a marketing and administrative
agreement in 2002.
    
    During 2002, commission expenses were unchanged at $.4 million. Operating expensesconsist of general operating expenses, including salaries, net of deferrable amounts.  
    
    In 2003, operating expenses increased by $1.7 million or 25%, to $8.4
million. Operating expenses increased as a result of our capitalizing
$1.2 million less operating expense during 2003 as a decline in annuity
sales from the record levels of $581 million for 2002 to $420 million
for 2003 did not result in a corresponding decline in variable costs.
In addition, operating expenses in 2003 increased by $.4 million for
legal costs, including settlement amounts for the favorable disposition
of several non-material claims and proceedings in the normal course of
business.
    
    In 2002, operating expenses increased $0.5 million or 8%, to $6.7
million. Operating expenses  affiliatedconsist of general operating expenses,
including rent and management fees paid to Standard Management and recorded in
the Other Services segment.  
    
    In 2003, affiliated operating expenses increased $0.6 million or 12%,
to $5.5 million. Affiliated operating expenses in 2003 included an
additional $.7 million of rent expense pursuant to the lease agreement
for 2003 and 2002 for building operating costs including utilities and
taxes.
    
    In 2002, affiliated operating expenses increased $0.2 million or 3%,
to $4.9 million. Interest
expense and financing costs - affiliatedrepresents interest
expense incurred on the surplus debentures issued to Standard Management. 30




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##### Table of Contents




    
    In 2003, affiliated interest expense and financing costs decreased by
$.1 million or 7%, to $1.7 million. The decline in interest expense
resulted from the decline in the prime rate.
    
    In 2002, affiliated interest expense and financing costs decreased by
$.7 million or 27%, to $1.8 million. The decline in interest expense
resulted from the decline in the prime rate. The weighted average interest rate for 2003, 2002, and 2001 was 6.20%,
6.67%, and 9.13%, respectively. Net realized investment gains (losses), net of related amortization
fluctuate from period to period and generally arise when securities are sold in
response to changes in the investment environment. Realized investment gains
(losses) may affect the timing of the amortization of DAC and the amortization
of the PVFP.  
    
    Net realized investment gains for 2003, net of DAC amortization of
$9.6 million, were $8.2 million.
    
    Net realized investment losses for 2002, net of DAC amortization of
$9.9 million, were $9.0 million. The majority of the loss was
attributable to the write-downs on the value of collateralized debt
obligations due to increased default rates and securities in the energy
and telecommunications sectors. We maintain a high quality investment portfolio with 99% and 97% of our
fixed maturity securities classified as investment grade securities as of
December 31, 2003 and 2002, respectively. 31




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##### Table of Contents



Health Services: 2003
    
    2002(Dollars in thousands)Statement of Operations:Sales
    
    $
    2,948
    
    
    $
    1,850Cost of goods sold
    
    
    2,445
    
    
    
    1,554Total gross margin
    
    
    503
    
    
    
    296Salaries
    
    
    1,900
    
    
    
    909Marketing and sales expenses
    
    
    836
    
    
    
    100Other operating expenses
    
    
    3,952
    
    
    
    920Depreciation
    
    
    349
    
    
    
    110Interest expense and financing costs
    
    
    31
    
    
    
    9Total expenses
    
    
    7,068
    
    
    
    2,048Loss before income taxes
    
    
    (6,565
    )
    
    
    (1,752
    )Federal income tax expense (benefit)
    
    
    596
    
    
    
    (596
    )Net Loss
    
    $
    (7,161
    )
    
    $
    (1,156
    )
 General:Our Health Services segment consists of revenues earned and
expenses incurred from our pharmaceutical operations. Our primary customer
base consists of consumers, academic institutions and mental health facilities.
The profitability of this segment is primarily a function of gross margin on
sales (the difference between sales and cost of sales and fulfillment costs)
and management of our operating expenses. Net
loss: Net loss in for 2003 was $7.2 million as compared to $1.2 million for
2002.
The 2003 loss included expenses associated with the continued development of U.
S. Health Services operating platform and infrastructure, as well as ongoing
concentrated marketing initiatives. Also, the 2003 results were reduced by
$3.0 million as a result of recording a valuation allowance on the tax benefits
on this segments operating loss. 32




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##### Table of Contents



Other Services: 2003
    
    2002
    
    2001(Dollars in thousands)Statement of OperationsOperating
income - affiliated
    
    $
    5,454
    
    
    $
    4,854
    
    
    $
    4,700Interest
income - affiliated
    
    
    1,675
    
    
    
    1,800
    
    
    
    2,464Commission income
    
    
    614
    
    
    
    2,442
    
    
    
    6,231Fees and other income
    
    
    19
    
    
    
    17
    
    
    
    105Total revenues
    
    
    7,762
    
    
    
    9,113
    
    
    
    13,500Commission expenses
    
    
    10
    
    
    
    777
    
    
    
    3,499Net
investment expenses - affiliated
    
    
    169
    
    
    
    253
    
    
    
    250Other operating expenses
    
    
    6,463
    
    
    
    6,461
    
    
    
    5,016Interest expense and financing costs
    
    
    4,443
    
    
    
    4,342
    
    
    
    3,492Total expenses
    
    
    11,085
    
    
    
    11,833
    
    
    
    12,257Operating income (loss) before income taxes
    
    
    (3,323
    )
    
    
    (2,720
    )
    
    
    1,243Federal income tax expense (benefit)
    
    
    (412
    )
    
    
    (2,336
    )
    
    
    351Operating income (loss) after income taxes
    
    
    (2,911
    )
    
    
    (384
    )
    
    
    892Net realized investment gains (losses), net of income taxes
    
    
    63
    
    
    
    (1,001
    )
    
    
    (1,310
    )Net loss
    
    $
    (2,848
    )
    
    $
    (1,385
    )
    
    $
    (418
    )
 General:Our Other Services segment consists of revenues and expenses
primarily related to corporate operations and financing costs. During the
third quarter of 2003, we sold the assets of our marketing services company,
Savers Marketing Corporation, for a $200,000 note receivable. The sale led to
a reduction in commission income and commission expenses. Operating
income - affiliatedconsists of income from the Financial
Services segment related to management fees and rental income  
    
    During 2003, operating income - affiliated increased $.6 million or
12%, to $5.5 million due to increased rental income.
    
    During 2002, operating income - affiliated increased $.2 million or
3%, to 4.9 million. Interest
income - affiliatedconsists of interest income from the
Financial Services segment related to the surplus debentures issued by Standard
Management.  
    
    During 2003, interest income - affiliated decreased $.1 million or
7%, to $1.7 million. The decline in interest income resulted from the
decline in the prime rate.
    
    During 2002, interest income - affiliated decreased $.7 million or
27%, to 1.8 million. The decline in interest income resulted from the
decline in the prime rate. 33




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##### Table of Contents



Commission incomeconsists of fee income related to servicing unaffiliated
blocks of business.  
    
    During 2003, commission income decreased $1.8 million or 73%, to $.7
million due to the sale of the assets of Savers Marketing.
    
    During 2002, commission income decreased $3.8 million or 61%, to 2.4
million due to a decrease in sales by Savers Marketing. Commission expensesrepresents commission expenses related to servicing
unaffiliated blocks of business.  
    
    During 2003, commission expenses decreased $.8 million or 99%, to
$10,000 due to the sale of the assets of Savers Marketing.
    
    During 2002, commission expenses decreased $2.7 million or 78%, to
$.8 million due to a decrease in sales by Savers Marketing. Net
investment expenses - affiliatedrepresents interest expense paid to
Financial Services. Other operating expensesconsists of corporate operating expenses,
including salaries.  
    
    During 2003, other operating expenses remained at $6.5 million.
    
    During 2002, other operating expenses increased
$1.4 million or 29%, to 6.5 million. Interest expense and financing costsrepresents interest expense incurred
and the amortization of debt issuance costs.  
    
    During 2003, interest expense and financing costs increased $.1
million or 2%, to $4.4 million.
    
    During 2002, interest expense and financing costs increased $.8
million or 24% to $4.3 million due to increased borrowings. Federal income tax benefit  
    
    During 2003, federal income tax benefit decreased $1.9 million or
82%, to $.4 million. Federal income benefit decreased due to a
valuation allowance related to the operating losses recorded in 2003.
Also, in 2002, there was a utilization of a net operating loss
carryforward of $1.0 million.
    
    During 2002, federal income tax benefit increased $2.7 million to
$2.3 million. Federal income benefit increased due to the utilization a
of a net operating loss carryforward of $1.0 million. 34




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##### Table of Contents



International
Operations (discontinued operations): 2003
    
    2002
    
    2001(Dollars in Thousands)Discontinued operations:Income from discontinued operations less
taxes of $0, $585 and ($185), respectively.
    
    
    
    
    
    
    1,068
    
    
    
    1,566Gain (loss) from the sale of discontinued
operations less taxes of $0, $4,125, and
$0, respectively
    
    
    (275
    )
    
    
    6,872
    
    
    
    Total income (loss) from discontinued operations
    
    
    (275
    )
    
    
    7,940
    
    
    
    1,566
 General:Our International Operations (discontinued operations) were sold
in 2002. The 2002 and 2001 results included revenues earned and expenses
incurred from abroad, primarily Europe, and include fees collected on our
deposits from unit-linked assurance products. The profitability of this
segment primarily was dependant on the amount of separate account assets under
management, the management fee charged on those assets and management of our
operating expenses. Income
from discontinued operationsconsist of general operating expenses,
including salaries, net of deferrable amounts.  
    
    Income before gain (loss) on sale of discontinued operations declined
due to the sale of the portfolio of Premier Life (Bermuda), Limited and
the sale of Premier Life (Luxembourg) S.A. in 2002. Gain
(loss) on sale of discontinued operations, net of related
costs
results from the sale of our International Operations in 2002.  
    
    Loss from the sale of discontinued operations in 2003 due to our
settling a purchase price adjustment resulting in a $275,000 charge.
    
    Gain from sale of discontinued operations in 2002 resulted from the
sale of the portfolio of Premier Life (Bermuda), Limited and the sale of
Premier Life (Luxembourg) S.A. in 2002. 35




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Liquidity and Capital Resources Liquidity of Standard Management (Parent Company) We are a financial services holding company whose liquidity requirements
are met through payments received from our subsidiaries. These payments
include 1) surplus debenture interest, 2) dividends, 3) management fees, 4)
equipment rental fees, 5) lease income and 6) allocation of taxes, all of which
are subject to restrictions under applicable insurance laws and are used to pay
our operating expenses and meet our debt service obligations. These internal
sources of liquidity have been supplemented in the past by external sources
such as revolving credit agreements and long-term debt and equity financing in
the capital markets. Potential Cash Available for 2004 We anticipate that available cash from our existing working capital,
surplus debenture interest, dividends, management fees, rental income and tax
sharing payments will be adequate to meet our anticipated parent company cash
requirements for 2004. The following describes our potential sources of cash
in 2004. Surplus
Debenture Interest.We loaned $27.0 million to Standard Life
pursuant to unsecured surplus debenture agreements (surplus debentures) which
requires Standard Life to make quarterly interest payments at a variable
corporate base rate plus 2% per annum, and annual principal payments of $1.0
million per year beginning in 2007 and concluding in 2033. The interest and
principal payments are subject to quarterly approval by the Indiana Department
of Insurance, depending upon satisfaction of certain financial tests relating
to levels of Standard Lifes capital and surplus and general approval of the
Commissioner of the Indiana Department of Insurance. We currently anticipate
these quarterly approvals will be granted. Assuming the approvals are granted
and the December 31, 2003 interest rate of 6.0% continues, we expect to receive
interest income of $1.6 million from the surplus debentures in 2004. Dividendspaid from Standard Life are limited by laws applicable to
insurance companies. As an Indiana domiciled insurance company, Standard Life
may pay a dividend or distribution from its surplus profits, without the prior
approval of the Commissioner of the Indiana Department of Insurance, if the
dividend or distribution, together with all other dividends and distributions
paid within the preceding 12 months, does not exceed the greater of 1) net gain
from operations or 2) 10% of surplus, in each case as shown in its preceding
annual statutory financial statements. In 2003 and 2002, there were no
dividends received from our subsidiaries. In 2004, we could receive dividends
of $1.9 million from Standard Life, without regulatory approval and an
additional $8.5 million with regulatory approval. Management
Fees.Pursuant to a management services agreement, Standard
Life paid $ 3.6 million during 2003 for certain management services related to
the production of business, investment of assets and evaluation of
acquisitions. In addition, Dixie Life paid Standard Life $0.7 million in 2003,
respectively, for certain management services provided. Both of these
agreements provide that they may be modified or terminated by the applicable
Departments of Insurance in the event of financial hardship of Standard Life or
Dixie Life. In 2004, we expect to receive management fees of $3.6 million from
Standard Life. Equipment
Rental Fees.In 2003, we received $1.1 million from Standard
Life for the use of our equipment and we expect to receive the same amount in
2004. Lease
Income.Effective January 1, 2002, we entered into a lease
agreement with Standard Life whereby Standard Life will lease approximately
43,000 square feet of our corporate headquarters in Indianapolis. During 2003,
we received approximately $.8 million in lease income from Standard Life and we
expect to receive the same amount in 2004. Also associated with this lease,
Standard Life is responsible for its share of building maintenance expenses.
During 2003, we received $.7 million in maintenance expenses for 2003 and 2002.
We expect to receive $.3 million in maintenance expense in 2004. 36




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##### Table of Contents



Estimated Cash Required in 2004 The following are the characteristics of our mortgage payable, promissory
note, notes payable and trust preferred securities, including estimated
required payments in 2004. Mortgage
Payable: The following are characteristics of our mortgage payable agreement at
December 31, 2003:  
    
    outstanding balance of $6.6 million;
    
    interest rate of 7.375% per annum;
    
    principal and interest payments: $56,000 per month through December, 2011;
    
    interest payments required in 2004 based on current balances will be $.5 million;
    
    note may be prepaid on or before January 2005 at 105% and declining to 101% after December 2008. Notes
Payable: The following are characteristics of our promissory notes at December 31, 2003:  
    
    outstanding balance of $1.0 million;
    
    weighted average interest rate of 3.0% per annum;
    
    principal and interest payments: $30,000 interest only per year
in 2003 and 2004; principal payments thereafter beginning in 2005
through 2007. The following are characteristics of our senior secured credit agreement at
December 31, 2003:  
    
    outstanding balance of $20 million;
    
    weighted average interest rate of 5.92%;
    
    principal payments: $1.5 million to be paid in 2004, $2.0
million to be paid in 2005, $2.1 million to be paid in 2006, and $2.2
million to be paid in 2007. The remaining principal payment of $12.2
million is due in 2008
    
    subject to certain restrictions and financial and other covenants;
    
    interest payments required in 2004 based on current balances will be $1.2 million. Trust
Preferred Securities: These securities represent an undivided beneficial interest in the assets
of SMAN Capital Trust I, a Delaware business trust organized to purchase our
junior subordinated debentures and issue preferred securities. The assets of
the Trust consist solely of the debentures which were purchased by the Trust
with the proceeds of the offering. On August 9, 2001, the Trust completed a
public offering of $20.7 million of its 10.25% preferred securities. The Trust
used the proceeds of this offering to purchase our 10.25% junior subordinated
debentures. The following are characteristics of our trust preferred securities at December 31, 2003:  
    
    outstanding balance of $20.7 million;
    
    annual distribution rate of 10.25%; distributions may be deferred up to 20 consecutive quarters;
    
    matures August 9, 2031;
    
    may be redeemed on or after August 9, 2006 at $10 per security plus accumulated and unpaid distributions;
    
    distributions required in 2003 based on current balances will be $2.1 million;
    
    distributions are classified as interest expense. 37




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General.On a consolidated basis we reported net cash provided by
operations of $26.8 million and $18.4 million for 2003 and 2002, respectively.
Although deposits received on our interest-sensitive annuities and other
financial products are not included in cash flow from operations under GAAP,
these funds are available. Cash provided by operations plus net deposits
received, less net account balances returned to policyholders on interest
sensitive annuities and other financial products, resulted in positive cash
flow of $230.5 million and $479.0 million for 2003 and 2002, respectively. The
decrease is primarily due to a decline in annuity premium deposits. Cash
generated on a consolidated basis is available only to the extent that it is
generated at the holding company level or is available through interest,
dividends, management fees or other payments from our subsidiaries. At December 31, 2003, we had parent company only cash and short-term
investments of $.3 million. These funds are available for general corporate
purposes. Our parent company only operating expenses, not including interest
expense, were $5.5 million and $5.5 million for 2003 and 2002, respectively. Contractual
Obligations.In our day-to-day business activities, we incur
certain commitments to make future payments under contracts such as operating
leases and purchase orders. Maturities under these contracts are set forth in
the following table as of December 31, 2003, in thousands: Payment due by periodLess than 1
    
    
    
    
    
    
    
    
    
    More than 5Total
    
    year
    
    1-3 Years
    
    3-5 Years
    
    yearsLong-Term Debt Obligations
    
    $
    90,855
    
    
    $
    5,558
    
    
    $
    8,316
    
    
    $
    8,259
    
    
    $
    68,722Capital Lease Obligations
    
    
    551
    
    
    
    524
    
    
    
    27
    
    
    
    
    
    
    
    Operating Lease Obligations
    
    
    1,393
    
    
    
    445
    
    
    
    908
    
    
    
    40
    
    
    
    Purchase Obligations
    
    
    100
    
    
    
    100
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    92,899
    
    
    $
    6,627
    
    
    $
    9,251
    
    
    $
    8,299
    
    
    $
    68,722
 (Payments include principal and interest) Off-Balance
Sheet Arrangements.We have no off-balance sheet financing
arrangements. Liquidity of Financial Services The principal liquidity requirements of Standard Life are its 1)
contractual obligations to policyholders, 2) surplus debenture interest,
dividends, management fees and rental fees to Standard Management and 3)
operating expenses. The primary source of funding for these obligations has
been cash flow from premium income, net investment income, investment sales and
maturities and sales of annuity products. These sources of liquidity for
Standard Life significantly exceed scheduled uses. Liquidity is also affected
by unscheduled benefit payments including death benefits, policy withdrawals
and surrenders. The amount of withdrawals and surrenders is affected by a
variety of factors such as renewal interest crediting rates, interest rates for
competing products, general economic conditions, Standard Lifes A.M. Best
rating and events in the industry that affect policyholders confidence. In
October 2003, A.M. Best confirmed Standard Lifes rating of (B+), or very
good. The policies and annuities issued by Standard Life contain provisions that
allow policyholders to withdraw or surrender their policies under defined
circumstances. These policies and annuities generally contain provisions, which
apply penalties or otherwise restrict the ability of policyholders to make such
withdrawals or surrenders. Standard Life closely monitors the surrender and
policy loan activity of its insurance products and manages the composition of
its investment portfolios, including liquidity, to ensure it has sufficient
cash resources in light of such activity. Changes in interest rates may affect our incidence of policy surrenders
and other withdrawals. In addition to the potential effect on liquidity,
unanticipated withdrawals in a changing interest rate environment could
adversely affect our earnings if we were required to sell investments at
reduced values to meet liquidity demands. We manage our asset and liability
portfolios in order to minimize the adverse earnings effect of changing market
interest rates. We seek assets that have duration characteristics similar to
the liabilities that they support. We also prepare cash flow projections and
perform cash flow tests under various market interest rate scenarios to assist
in evaluating liquidity needs and adequacy. Our U.S. insurance subsidiaries
currently expect available liquidity sources and future cash flows to be
adequate to meet the demand for funds. 38




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##### Table of Contents



Statutory surplus is computed according to rules prescribed by the NAIC as
modified by the Indiana Department of Insurance, or the state in which our
insurance subsidiaries do business. Statutory accounting rules are different
from GAAP and are intended to reflect a more conservative perspective. With
respect to new business, statutory accounting practices require that: 1)
acquisition costs (primarily commissions and policy issue costs) and 2)
reserves for future guaranteed principal payments and interest in excess of
statutory rates, be expensed in the year the new business is written. These
items cause a reduction in statutory surplus or surplus strain in the year
written for many insurance products. We design our products to minimize such
first-year losses, and in 2003 none of our products cause a statutory loss in
the year written. Our long-term growth goals contemplate continued growth in
our insurance businesses. To achieve these growth goals, our U.S. insurance
subsidiaries will need to increase statutory surplus. Additional statutory
surplus may be secured through various sources such as internally generated
statutory earnings, infusions with funds generated through our debt or equity
offerings, or mergers with other life insurance companies. If additional
capital is not available from one or more of these sources, we believe that we
could reduce surplus strain through the use of reinsurance or through reduced
writing of new business. We believe that the operational cash flow of Standard Life will be
sufficient to meet our anticipated needs for 2004. As of December 31, 2003,
Standard Life had statutory capital and surplus for regulatory purposes of
$62.8 million. As the annuity business produced by Standard Life increases,
Standard Life expects to satisfy statutory capital and surplus requirements
through statutory profits and through additional capital contributions by
Standard Management. Net cash flow from operations on a statutory basis of
Standard Life, after payment of benefits and operating expenses, was $139.8
million and $343.2 million for 2003 and 2002, respectively. The decrease is
primarily due to a decline in annuity premium deposits. If the need arises for
cash, which is not readily available, additional liquidity could be obtained
from the sale of invested assets. Liquidity of Health Services The principal liquidity requirements of our Health Services segment are
its 1) cost of goods sold, 2) operating expenses, and 3) future acquisitions.
The primary source of funding for these obligations has been cash flow from 1)
pharmaceutical sales, 2) internal and external borrowings, and 3) capital
contributions form Standard Management. The liquidity requirements of our
Health Services segment have significantly exceeded cash flow from
pharmaceutical sales. We believe that the operational cash flow of our Health Services segment
will not be sufficient to meet our anticipated operational needs for 2004.
Therefore, this segment is expected to continue to fund its cash needs through
external borrowings and capital contributions from Standard Management. Factors That May Affect Future Results We are currently considering a transaction that would significantly alter
the nature of our business. We have historically operated in the financial services segment as a
holding company for insurance companies. If we consummate the currently
contemplated sale of Standard Life and exit the financial services segment, we
would be operating solely in the health services segment, which we entered only
two years ago. To date, our health services operations have generated little
revenue and have sustained significant losses. In order to become profitable, our
health services business will require additional capital expenditures.
There can be no assurance that we would be able to obtain sufficient funds,
from operating cash flow or otherwise, to successfully operate and expand the
business. We have limited history operating in the health services segment and
no assurance can be given that such operations will ever be
profitable. See Recent Developments on page 3. The price of the Companys common stock may demonstrate increased volatility
upon the announcement of a proposed sale of Standard Life or upon the
consummation of such a transaction and could decline below recent levels. In
the event of a significant and sustained decline, the Company could be
delisted from Nasdaq. The Companys common stock may exhibit increased volatility upon the
announcement or consummation of a transaction involving the sale of Standard
Life. Depending upon investor acceptance of the proposed transaction, the
price of the stock could decline below recent levels. If such decline were
severe and sustained, Nasdaq could initiate action to delist the Companys
shares, which could further negatively impact the price and/or marketability

of the shares. 39




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We are subject to a number of factors affecting its business, including
intense competition in the industry and the ability to attract and retain
agents, suppliers, clients and employees. If we are unable to respond
appropriately to any of these factors, business and financial results could
suffer. Our operating results are affected by many factors, including competition,
lapse rates, interest rates, maintenance of insurance ratings, changes in the
regulatory environment with respect to pharmacy service providers,
relationships with suppliers of inventory held in its health services division,
relationships with large institutional clients, general governmental regulation
and general business conditions, many of which are outside our control. Our financial services division operates in a highly competitive
environment and is in direct competition with a large number of insurance
companies, many of which offer a greater number of products through a greater
number of agents and have greater resources. In addition, we may be subject,
from time to time, to new competition resulting from additional insurance
carriers introducing products similar to those offered by us. Moreover, as a
result of recent federal legislation, commercial banks, insurance companies,
and investment banks may now combine, provided certain requirements are
satisfied, and we can expect to encounter increased competition from these
providers of financial services. This competitive environment could result in
lower premiums, loss of sales and reduced profitability. We believe that the ability to compete is dependent upon, among other
things, the ability to retain and attract independent general agents to market
products and the ability to develop competitive products that also are
profitable. Although management believes that good relationships with our
independent general agents exist, competition for those agents among insurance
companies is intense. Our independent general agents typically represent other
insurance companies and may sell products that compete with its products.
Sales of our annuity products and, therefore, our results of operations and
financial condition may be adversely affected if we are unsuccessful in
attracting and retaining independent agents and marketing organizations. Our health services segment operates in a highly competitive environment
and is in direct and indirect competition with a number of other companies that
operate in the pharmaceutical market space, including other retail,
institutional and wholesale pharmacies, health insurers, health management
organizations, pharmacy benefit managers and discount drug programs offered
directly by pharmaceutical manufacturers. In addition, the provision of drugs
and pharmacy benefits is a highly dynamic and evolving business which is tied
closely to changes in the Medicare/Medicaid reimbursement environment,
governmental entitlement program budget restrictions exercised at both the
state and federal levels, cost controls imposed by third-party payors in an
attempt to exercise control over spiraling health care costs, and increasing
competition from pharmacies operating outside the United States which ship
drugs to U.S. residents over the Internet and using other distribution
channels. There are currently a number of active initiatives being pursued by
local and national legislatures. On December 8, 2003, President Bush signed
into law the Medicare Prescription Drug Improvement and Modernization Act of
2003, a comprehensive voluntary prescription drug benefit administered under
Medicare Part D effective January 1, 2006. The new act also provides certain
cost-sharing government subsidies for individuals who might otherwise qualify
for drug coverage under Medicaid or similar government-funded aid programs. Since a notable portion of our future institutional pharmacy business will
be made available to Medicare-qualified patients who may qualify for this new
benefit, it may have a substantial and lasting effect on the profitability of
our business depending on how it and similar initiatives are administered by
the government agencies charged with implementation. Since important elements
of the new act relating to issues as formulary development, drug pricing and
drug discount cards have yet to be finalized, it is impossible to predict the
impact of the act on our profitability. Our success also depends upon the continued contributions of key officers
and employees. Should one or more of these individuals leave or otherwise
become unavailable for any reason, business and results of operations could be
materially adversely affected. Financial results could suffer if our A.M. Best ratings are downgraded. Insurers compete with other insurance companies, financial intermediaries
and other institutions on the basis of a number of factors, including the
ratings assigned by A.M. Best. A.M. Best assigns ratings labeled (A++)
through (F) (Superior, Excellent, Very Good, Fair, Marginal,
Weak, Poor, Under Regulatory Supervision, and In Liquidation).
Standard Life and Dixie Life have a rating of (B+) (Very Good) and (B)
(Fair), respectively, by A.M. Best. A.M. Bests ratings represent their
opinion based on a comprehensive quantitative and qualitative review of our
financial strength, operating performance and market profile. A rating of
(B+) is assigned by A.M. Best to companies 40




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that, in their opinion, have achieved very good overall performance when
compared to the standards established by A.M. Best, and have a good ability to
meet their obligations to policyholders over a long period of time. A rating
of (B) is assigned by A.M. Best to companies that, in their opinion, have
achieved good overall performance when compared to the standards established
by A.M. Best. According to A.M. Best, these companies generally have an
adequate ability to meet their obligations to policyholders, but their
financial strength is vulnerable to unfavorable changes in underwriting or
economic conditions. In evaluating a companys financial and operating
performance, A.M. Best reviews the companys profitability, leverage and
liquidity as well as the companys book of business, the adequacy and
soundness of its reinsurance, the quality and estimated market value of its
assets, the adequacy of its reserves, and the experience and competence of its
management. A.M. Best reviews its ratings of insurance companies from time to
time. If the A.M. Best ratings were downgraded, sales of annuity products
could be significantly impacted and the financial condition and results of
operations could be materially adversely affected. Changes in governmental regulation and legislation could have a
substantial impact on our profitability. Our insurance subsidiaries are subject to substantial governmental
regulation in each of the jurisdictions in which they conduct business.
Changes in these regulations could have a significant impact on our
profitability. The primary purpose of these regulations is to protect
policyholders, not investors. These regulations are vested in governmental
agencies having broad administrative power with respect to all aspects of our
insurance business, including premium rates, policy forms and applications,
marketing illustrations, dividend payments, capital adequacy and the amount and
type of investments we may have. The NAIC, and state insurance regulators continually reexamine existing
laws and regulations and their application to insurance companies. Changes in
the NAIC or state regulations, including, for example, changes in the
risk-based capital requirements, which are determined by the NAIC and state
regulators, could affect the ability of our subsidiaries to pay dividends to us
which could affect our ability to make payments upon our contractual
obligations. In addition, the federal government has become increasingly involved with
insurance regulation in recent years, including the passage of the
Gramm-Leach-Bliley Act, and more comprehensive federal legislation in this area
is still being considered by Congress. Federal legislation and administrative
policies in several areas, including pension regulation, age and sex
discrimination, financial services regulation and federal taxation, affect us
specifically and the insurance business in general. New state or federal laws
or regulations, as well as a more strict interpretation of existing laws or
regulations, may adversely affect our current claims exposure, adversely affect
the profitability of our current and future products, and materially affect our
future operations by increasing the costs of regulatory compliance. We cannot
predict the impact of future state or federal laws or regulations on our
business. See Business of Standard Management  Regulatory Factors. Our health subsidiary is also subject to substantial regulation at both
the state and Federal levels. Our ability to continue operating as a retail,
mail order and institutional pharmacy is contingent upon our ability to
maintain appropriate licenses in all the states in which they currently conduct
business. We are also required to comply with a comprehensive set of
regulations under the Federal Health Insurance Portability and Accountability
Act (HIPAA) with respect to the privacy and security of patient health
information and the method in which this information is electronically
transmitted to payors and governmental agencies such as the agencies
responsible for implementing the Medicare and Medicaid programs. Regulations
implementing HIPAA are still being disseminated, revised and actively reviewed
as of the time of this writing. It is possible that substantial changes in
these regulations, or in the strictness of interpretation of these regulations,
may adversely affect our relationships with our clients and materially affect
our future operations by increasing the costs of regulatory compliance. As
with the insurance laws, we cannot predict the impact of future state or
Federal laws or regulations on its health services business. Under the Internal Revenue Code of 1986, as amended (Code), income tax
payable by policyholders on investment earnings is deferred during the
accumulation period of certain life insurance and annuity products. The
favorable tax treatment may give certain of our products a competitive
advantage over other non-insurance products. On May 28, 2003, President Bush
signed the Jobs and Growth Tax Relief Reconciliation Act of 2003, which reduces
the federal income tax rates applicable to certain dividends and capital gains
realized by individuals. This legislation may lessen the competitive advantage
of certain of our products relative to other investments that generate dividend
or capital gain income. As a result, demand for certain of our products that
offer income tax deferral may be negatively affected. Additionally, Congress
has from time to time considered other legislation that would reduce or
eliminate the relative benefits to policy owners of the deferral of taxation on
the accretion of value within certain insurance products or might otherwise
affect the taxation of insurance products and insurance companies. In
particular, President Bush recently proposed legislation, currently under
consideration by Congress, that would increase the amount that taxpayers may
contribute each year to individual retirement 41




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accounts, which provide deferral benefits similar to those offered by our
tax-deferral products. To the extent that the Code is revised in accordance
with these proposals or otherwise in a manner that reduces the tax-deferred
status of insurance products, or reduces the taxation of, or expands the market
for, competing products, all life insurance companies, including us, could be
adversely affected. Interest rate fluctuations could negatively affect spread income. Significant changes in interest rates expose insurance companies to the
risk of not earning anticipated spreads between the interest rate earned on

investments and the credited interest rates paid on outstanding policies. Both
rising and declining interest rates can negatively affect spread income.
Although we develop and maintain asset/liability management programs and
procedures designed to preserve spread income in rising or falling interest
rate environments, changes in interest rates could adversely affect these
spreads. Our financial results are highly dependent on the financial condition of
the companies in which we make investments and could suffer if the value of our
investments decreases due to factors beyond our control. Our invested assets, approximately $1.69 billion, represented
approximately 86% of our total assets at December 31, 2003. These investments
are subject to customary risks of credit defaults and changes in market values.
In addition, the value of our investment portfolio depends in part on the
financial condition of the companies in which we have made investments.
Factors beyond our control, including interest rate levels, financial market
performance, and general economic conditions may have a significant negative
impact on our investment income and the value of our investment assets, which
would have a material adverse affect on our financial condition. Our policy claims fluctuate from year to year, and future benefit payments
may exceed our established reserves, which would cause our earnings to suffer. Our earnings are significantly dependent upon the extent to which the
actual claims received by our subsidiaries is consistent with the actuarial
assumptions we use in establishing reserves for the payment of benefit claims.
To the extent that the actual claims experience of our subsidiaries exceeds our
established reserves, our operating income would be negatively affected,
resulting in an adverse effect on our earnings. Volatility in benefit claims is common in the life insurance industry.
While our reserves have been sufficient to cover policy claims in the past and
we attempt to limit the risk by carefully underwriting new policies and sharing
risks with reinsurance companies, we may still experience a period of higher
than anticipated benefit claims that exceeds our established reserves. If this
were to happen, it could result in increased operating losses. Because a significant portion of our annuity contracts are surrenderable,
any substantial increase in the level of surrenders could negatively affect
financial results. As of December 31, 2003, approximately 79.4% or $1.2 billion of annuity
contracts in force (measured by statutory reserves) were surrenderable.
Approximately 9% of those contracts or approximately $99.9 million of annuity
contracts in force (measured by statutory reserves) are surrenderable without
charge. Changes in prevailing interest rates, ratings or other factors which
result in or lead to significant levels of surrenders of existing annuity
contracts could have a material adverse effect on our financial condition and
results of operations. Surrenders result in a reduction of invested assets
that earn investment income and a reduction of policyholder account balances
that credit interest. Our financial results could be materially adversely affected if our
assumptions regarding the value of intangible assets proven to be incorrect. Included in our financial statements are certain assets that are primarily
valued, for financial statement purposes, on the basis of managements
assumptions. These assets include items such as:  
    
    deferred policy acquisition costs;
    
    present value of future profits;
    
    intangibles; 42




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
    
    goodwill; and
    
    organization and deferred debt issuance costs. The assumptions are based upon, among others, interest rate spread and
rates of mortality, surrender and lapse. If, for instance, future mortality
rates were higher than expected, projected margins would be lower and deferred
policy acquisition cost amortization would increase. The value of these assets
reflected in our December 31, 2003 balance sheet totaled $166 million, or 8% of
our assets. Although we have established procedures to periodically review the
assumptions used to value these assets and determine the need to make
adjustments, if our assumptions are incorrect and adjustments need to be made,
our financial results could be materially adversely affected. Our profitability and ability to conduct business through our health
subsidiary could be negatively impacted by a change in our relationships with
our largest institutional clients. A large portion of the present and future growth of our institutional
pharmacy business is contingent upon our ability to acquire and retain
long-term contracts at favorable terms with institutional care facilities.
Currently we have thirteen contractual relationships with large
institutional clients and forty three relationships with smaller
facilities.
We are presently attempting to grow and diversify the number, type and terms
of these contracts, but a number of factors  including the ability to
favorably compete with respect to pricing, our relationships with drug and
supplement manufacturers and suppliers, and the economic solvency and
profitability of our institutional clients  can impact our profitability and
opportunities for future growth. In addition, although we believe our current
relationship with our institutional clients is strong, the loss of key
institutional clients would materially affect the operation of our health
services segment. Because our health services business model is relatively new and unproven,
its limited operating history in this segment is not indicative of future
performance, and this part of its business is difficult to evaluate. Because we have only recently entered the Health Services segment, it does
not have an operating history upon which an investor can evaluate our
prospects. In attempting to implement our business model, we may need to
significantly change our business operations, sales and implementation
practices, customer service and support operations and management focus. We are
also facing new risks and challenges, including a lack of meaningful historical
financial data upon which to plan future budgets, the need to develop strategic
relationships and other risks described below Continuing efforts to contain healthcare costs may reduce our future
health services revenue. The sales and profitability of the health services segment are affected by
the efforts of healthcare payors to contain or reduce the cost of healthcare by
lowering reimbursement rates, limiting the scope of covered services, and
negotiating reduced or capitated pricing arrangements. Any changes which lower
reimbursement levels under Medicaid, Medicare or private pay programs,
including managed care contracts, could reduce our future revenue. Furthermore,
other changes in these reimbursement programs or in related regulations could
reduce its future revenue. These changes may include modifications in the
timing or processing of payments and other changes intended to limit or
decrease the growth of Medicaid, Medicare or third party expenditures. If we fail to comply with licensure requirements, fraud and abuse laws or
other applicable laws, it may need to curtail operations, and could be subject
to significant penalties. Our pharmacy business is subject to extensive and often changing federal,
state and local regulations, and our pharmacy is required to be licensed in the
states in which it is located or does business. While we continuously monitor
the effects of regulatory activity on its operations and believe we currently
have all necessary pharmacy licenses, the failure to obtain or renew any
required regulatory approvals or licenses could adversely affect the continued
operation of the business. The long-term care facilities that contract for our
services are also subject to federal, state and local regulations and are
required to be licensed in the states in which they are located. The failure by
these long-term care facilities to comply with these or future regulations or
to obtain or renew any required licenses could result in our inability to
provide pharmacy services to these facilities and their residents. We are also
subject to federal and state laws that prohibit some types of direct and
indirect payments between healthcare providers. These laws, commonly known as
the fraud and abuse laws, prohibit payments intended to induce or encourage the
referral of patients to, or the recommendation of, a particular provider of
items or services. Violation of these laws can result in loss of licensure,
civil and criminal penalties and exclusion from the Medicaid, Medicare and
other federal healthcare programs. If we or our client institutions fail to comply with Medicaid and Medicare
reimbursement regulations, our health services revenue could be reduced, we
could be subject to penalties and we could lose our eligibility to participate
in these programs. 43




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##### Table of Contents



As of December 31, 2003, approximately 25% of our health services
pharmacy billings were directly reimbursed by government sponsored programs.
Government sponsored programs include Medicaid and, to a lesser extent,
Medicare. Our remaining billings are currently paid or reimbursed by individual
residents, long-term care facilities and other third-party payors, including
private insurers. A portion of these revenues are indirectly dependent on
government programs. We anticipate that as the institutional pharmacy portion
of our Health Services segment grows, direct reimbursement from government
sponsored programs will become a material portion of our pharmacy billings. The Medicaid and Medicare programs are highly regulated. The failure, even
if inadvertent, of us and/or our client institutions to comply with applicable
reimbursement regulations could adversely affect our reimbursement under these
programs and our ability to continue to participate in these programs. In
addition, our failure to comply with these regulations could subject us to
other penalties. We are subject to additional risks relating to our acquisition strategy. One component of our growth strategy contemplates our making selected
acquisitions that will help grow the Health Services segment. Acquisitions
involve inherent uncertainties. These uncertainties include the effect on the
acquired businesses of integration into a larger organization and the
availability of management resources to oversee the operations of these
businesses. The successful integration of acquired businesses will require,
among others:  
    
    consolidation of financial and managerial functions and elimination of operational redundancies;
    
    achievement of purchasing efficiencies;
    
    the addition and integration of key personnel; and
    
    the maintenance of existing business. Even though an acquired business may have experienced positive financial
performance as an independent company prior to an acquisition, we cannot be
sure that the business will continue to perform positively after an
acquisition. We also may acquire businesses with unknown or contingent liabilities,
including liabilities for failure to comply with healthcare laws and
regulations. We have policies and procedures to conduct reviews of potential
acquisition candidates for compliance with healthcare laws and to conform the
practices of acquired businesses to its standards and applicable laws. We also
generally seek indemnification from sellers covering these matters. We may,
however, incur material liabilities for past activities of acquired businesses. We cannot be sure of the successful integration of any acquisition or that
an acquisition will not have an adverse impact on our results of operations or
financial condition. 44




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##### Table of Contents



Item 7A. Quantitative and Qualitative Disclosures About Market Risk We seek to invest available funds in a manner that will maximize
shareholder value and fund future obligations to policyholders and debtors,
subject to appropriate risk considerations. Many of our products incorporate
surrender charges, market interest rate adjustments or other features to
encourage persistency. Approximately 68.7% of the total insurance liabilities
at December 31, 2003 had surrender penalties or other restrictions and
approximately 21% are not subject to surrender. We also seek to maximize the total return on our investments through
active investment management. Accordingly, we have determined that the entire
portfolio of fixed maturity securities is available to be sold in response to:  
    
    changes in market interest rates;
    
    changes in relative values of individual securities and asset sectors;
    
    changes in prepayment risks;
    
    changes in credit quality outlook for certain securities;
    
    liquidity needs; and
    
    other factors. Profitability of many of our products is significantly affected by the
spreads between interest yields on investments and rates credited on insurance
liabilities. Although substantially all credited rates on annuity products may
be changed annually (subject to minimum guaranteed rates), changes in
competition and other factors, including the impact of the level of surrenders
and withdrawals, may limit the ability to adjust or to maintain crediting rates
at levels necessary to avoid narrowing of spreads under certain market
conditions. As of December 31, 2003, the average yield, computed on the cost
basis of the investment portfolio, was 5.45%, and the average interest rate
credited or accruing to total insurance liabilities was 3.64%, excluding
guaranteed interest bonuses for the first year of the annuity contract. Computer models were used to perform simulations of the cash flows
generated from our existing business under various interest rate scenarios.
These simulations measured the potential gain or loss in fair value of interest
rate-sensitive financial instruments. With such estimates, we seek to closely
match the duration of assets to the duration of liabilities. When the estimated
duration of assets and liabilities are similar, exposure to interest rate risk
is minimized because a change in the value of assets should be largely offset
by a change in the value of liabilities. At December 31, 2003, the option
adjusted duration of fixed maturity securities and short-term investments were
approximately 4.86, and the option adjusted duration of insurance liabilities
was approximately 5.51. The option adjusted duration compares the change in
the value of an asset or liability with a change in interest rates. This means
that if interest rates in general increased 1%, the value of our asset
portfolio would decrease by approximately 5.51%. If interest rates were to increase by 10% from their December 31, 2003
levels, our fixed maturity securities and short-term investments (net of the
corresponding changes in the values of cost of policies purchased, cost of
policies produced and insurance liabilities) would decline in fair value by
approximately $87.6 million. The calculations involved in our computer simulations incorporate numerous
assumptions, require significant estimates and assume an immediate change in
interest rates without any management of the investment portfolio in reaction
to such change. Consequently, potential changes in the value of our financial
instruments indicated by the simulations will likely be different from the
actual changes experienced under given interest rate scenarios, and the
differences may be material. Because our investments and liabilities are
actively managed, actual losses could be less than those estimated above. 45




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##### Table of Contents



Item 8. Consolidated Financial Statements and Supplementary Data The financial statements and supplementary data required with respect to
this Item 8 are listed in Item 15(a) (1) and included in a separate section of
this report and are incorporated herein by reference. 
 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None 
 Item 9A. Controls and Procedures Our Chief Executive Officer and Chief Financial Officer have evaluated the
effectiveness of our disclosure controls and procedures (as defined in Rule
13a-4c under the Securities Exchange Act of 1934) as of December 31, 2003 (the
Evaluation Date). They have concluded that, as of the Evaluation Date, our
disclosure controls and procedures were adequate and effective. There were no
significant changes in our internal controls or in other factors that could
significantly affect disclosure controls and procedures subsequent to the
Evaluation Date. 46




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##### Table of Contents



PART III 
 Item 10. Directors and Executive Officers of the Registrant Our executive officers and directors are as follows: Name
    
    Age
    
    Position HeldRonald D. Hunter
    
    
    52
    
    
    Chairman of the Board and Chief Executive OfficerP.B. (Pete) Pheffer
    
    
    53
    
    
    President, Chief Financial Officer and DirectorStephen M. Coons
    
    
    62
    
    
    Executive Vice President, General Counsel,
Secretary and DirectorMarc D. Novotney
    
    
    49
    
    
    President of Standard Life Insurance Company of
IndianaMartial R. Knieser
    
    
    61
    
    
    President of U.S. Health Services and DirectorRobert A. Borns
    
    
    68
    
    
    DirectorRobert J. Salyers
    
    
    57
    
    
    DirectorJames H. Steane II
    
    
    59
    
    
    Director
 Ronald D. Hunter. Mr. Hunter has been our Chairman of the Board, Chief
Executive Officer since its formation in June 1989 and the Chairman of the
Board and Chief Executive Officer of Standard Life since December 1987. From
June 1989 until 2002, Mr. Hunter also served as our President. Previously, Mr.
Hunter held several management and sales positions in the life insurance
industry with a number of companies. Mr. Hunter has been widely recognized
for his vision and leadership qualities, earning him the distinction of being a
finalist four times for the Ernst & Young Entrepreneur of the Year award. He
has also become well-known as the author of the book, Vision Questing: Turning
Dreams into Realities. P.B. (Pete) Pheffer. Mr. Pheffer has been our President since 2002 and
Chief Financial Officer and a director since June 1997. Prior to joining us,
Mr. Pheffer was Senior Vice President, Chief Financial Officer and Treasurer of
Jackson National Life Insurance Company from 1994 to 1996 and prior to that was
Senior Vice President and Chief Financial Officer at Kemper Life Insurance
Companies from 1992 to 1994. Mr. Pheffer, a CPA, received his MBA from the
University of Chicago in 1988. Stephen M. Coons. Mr. Coons has been a director since August 1989. Mr.
Coons has been our General Counsel and Executive Vice President since March
1993 and has been our Secretary since March 1994. He was of counsel to the law
firm of Coons, Maddox & Koeller from March 1993 to December 1995. Prior to
March 1993, Mr. Coons was a partner with the law firm of Coons & Saint. He has
been practicing law for over 30 years. Mr. Coons served as Indiana Securities
Commissioner from 1978 to 1983. Marc D. Novotney. Mr. Novotney has served as President of Standard Life
Insurance Company of Indiana since March 2003. Mr. Novotney was the President
of Western Security Life Insurance Company, an AmerUs Company, from 1995 to
2002. Mr. Novotney also served as Senior Vice President, Multi-Company
Business of Indianapolis Life Insurance Company from 1999 to 2002. Mr.
Novotney received his MBA from Indiana Wesleyan University. Martial R. Knieser. Dr. Knieser has served as President of U.S. Health
Services since January 2004 and has been a director of Standard Management
since 1990. He was Director of Laboratories of Community Hospital Indianapolis
from 1978 to 1991 and was Medical Director of Stat Laboratory Services 47




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##### Table of Contents



from 1989 to 1999. Dr. Knieser also has been Medical Director of Standard
Life since December 1987. Dr. Knieser currently serves as Director of
Laboratories of St. Vincent Mercy Hospital, Elwood, Indiana. Robert A. Borns. Mr. Borns has been a director since 1996. He has served
as Chairman of Borns Management Corporation (real estate owners and managers),
Indianapolis, Indiana since 1962 and as Chairman of Correctional Management
Company, L.L.C. (privatized correctional facilities), Indianapolis, Indiana
since 1996. Mr. Borns serves on the board of Northern Trust Company
Bank/California, division of Northern Trust Co. Robert J. Salyers. Mr. Salyers has been a director since 2001. Mr.
Salyers has been practicing law since 1973 and is currently with the law firm
of Salyers & Eiteljorg, P.C. Mr. Salyers received his B.S. from Purdue
University and his J.D. from Indiana University Law School. James H. Steane II. Mr. Steane has been a director since 2002. In 1999
Mr. Steane retired from Fleet Bank after 29 years in corporate banking, where
he held a number of positions, including Senior Vice President and Senior
Lending Officer in the Insurance and Mutual Fund Group of Fleet Bank. Mr.
Steane is also the past President of Junior Achievement of Hartford,
Connecticut and the American School for the Deaf. Mr. Steane received his MBA
from Adelphi University. Board of Directors Our board of directors consists of seven directors and is divided into
three classes, each serving a three-year term. Messrs. Hunter and Steane serve
as Class III directors until the 2004 annual meeting of shareholders. Messrs.
Borns and Salyers serve as Class I directors until the 2005 annual meeting of
shareholders. Messrs. Coons, Knieser and Pheffer serve as Class II directors
until the 2006 annual meeting of shareholders. Our board of directors has five standing committees: the Executive
Committee, the Audit Committee, the Compensation Committee, the Incentive Stock
Option Committee and the Nominating Committee. The principal function of the Executive Committee is acting for the full
board of directors in the management of business when action is required
between board of directors meetings. The committee meets as necessary, and all
actions by the committee are reported at the next board of directors meeting.
Members of the Executive Committee are Messrs. Hunter (Chairman), Coons,
Pheffer and Salyers. The Audit Committee reviews the results and scope of the audit and other
services provided by its independent auditors and recommends the appointment of
independent auditors to the board of directors. In addition, the committee
also monitors the effectiveness of the audit effort and financial reporting and
the adequacy of financial and operating controls. Members of the Audit
Committee are Messrs. Steane (Chairman), Borns and Salyers. Mr. Steane has
been designated by our board of directors as the audit committee financial
expert. The Compensation Committee approves compensation objectives and policy for
all employees and is responsible for developing and making recommendations to
the board of directors with respect to the Companys executive compensation
policies. In addition, the Compensation Committee determines periodically and
recommends to the board of directors the base cash compensation for our Chief
Executive Officer and other executive officers. The committee reports to
shareholders on executive compensation items as required by the SEC. Members
of the Compensation Committee are Messrs. Borns (Chairman),
Steane and
Salyers. The Incentive Stock Option Committee has responsibility for granting stock
options to eligible members of management under, and otherwise administers both
the 2002 Stock Incentive Plan and the Amended and Restated 1992 Stock Option
Plan. The entire board of directors comprises the members of the Incentive
Stock Option Plan Committee. The Nominating Committee recommends to the full board of directors
qualified candidates for election as our directors and officers. Members of
the Nominating Committee are Messrs. Salyers (Chairman), Borns and
Steane. Compliance with Section 16(a) of the Securities Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934 requires our
executive officers and directors, and persons who own more than ten percent
(10%) of our common stock (Reporting Persons), to file 48




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##### Table of Contents



reports of ownership and changes in ownership with the Securities and
Exchange Commission. Reporting Persons are required by the Securities and
Exchange Commission regulations to furnish us with copies of all Section 16(a)
reports they file. Based solely on our review of the copies of such forms
received by us and written representations from certain Reporting Persons, we
believe that during 2003 our Reporting Persons complied with all filing
requirements applicable to them. Code of Ethics We have adopted a Code of Business Conduct and Ethics that applies to our
Chief Executive Officer, Chief Financial Officer, and the principal accounting
officer. A copy of this Code of Business Conduct and Ethics is available
without charge upon request from the Chief Financial Officer at Standard
Management Corporation, 10689 N. Pennsylvania, Indianapolis, Indiana 46280. If
we make any substantive amendments to this Code of Business Conduct and Ethics
or grants any waiver from a provision of it, we will disclose the nature of
such amendment or waiver on our website at www.sman.com or in a Current Report
on Form 8-K. Item 11. Executive Compensation The following table sets forth the annual and certain other components of
the compensation for the last three fiscal years earned by Mr. Hunter, Chairman
and Chief Executive Officer of the Company, and our other currently serving
executive officers whose salary and bonus exceeded $100,000 during fiscal year
2003 (Messrs. Pheffer, Coons and Novotney) as well as such information for
certain former executive officers whose salary and bonus exceeded $100,000
during fiscal year 2003 but who were no longer serving in such a capacity at
the end of 2003 (Messrs. Firestone and Stahl): SUMMARY COMPENSATION TABLE LONG TERM COMPENSATIONAWARDSSecurities
    
    All OtherFiscal
    
    ANNUAL COMPENSATION
    
    Underlying
    
    CompensationName and Principal Position
    
    Year
    
    Salary
    
    Bonus
    
    Other (1)
    
    Options
    
    (2)Ronald D. Hunter
    
    
    2003
    
    
    $
    475,008
    
    
    $
    100,000
    
    
    $
    13,020
    
    
    
    
    
    
    $
    63,695Chairman of the Board
    
    
    2002
    
    
    
    402,240
    
    
    
    447,500
    
    
    
    19,608
    
    
    
    
    
    
    
    66,695and Chief Executive Officer
    
    
    2001
    
    
    
    358,320
    
    
    
    182,921
    
    
    
    232,027
    
    
    
    
    
    
    
    29,845P.B. (Pete) Pheffer
    
    
    2003
    
    
    
    350,016
    
    
    
    100,000
    
    
    
    
    
    
    
    
    
    
    
    28,052President and
    
    
    2002
    
    
    
    283,664
    
    
    
    285,000
    
    
    
    
    
    
    
    
    
    
    
    28,431Chief Financial Officer
    
    
    2001
    
    
    
    245,328
    
    
    
    91,460
    
    
    
    100,000
    
    
    
    
    
    
    
    19,567Stephen M. Coons
    
    
    2003
    
    
    
    224,256
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    16,819Executive Vice President
    
    
    2002
    
    
    
    219,864
    
    
    
    121,986
    
    
    
    
    
    
    
    
    
    
    
    16,789General Counsel and Secretary
    
    
    2001
    
    
    
    215,352
    
    
    
    91,460
    
    
    
    
    
    
    
    
    
    
    
    16,789Marc D. Novotney
    
    
    2003
    
    
    
    196,875
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,000President
    
    
    2002
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Standard Life Insurance
    
    
    2001
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
 49




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##### Table of Contents



SUMMARY COMPENSATION TABLE (Continued) LONG TERM COMPENSATIONAWARDSSecurities
    
    All OtherFiscal
    
    ANNUAL COMPENSATION
    
    Underlying
    
    CompensationName and Principal Position
    
    Year
    
    Salary
    
    Bonus
    
    Other (1)
    
    Options
    
    (2)Murray I. Firestone
    
    
    2003
    
    
    
    204,147
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    FormerPresident
    
    
    2002
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    U.S. Health Services
    
    
    2001
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Edward T. Stahl
    
    
    2003
    
    
    
    
    
    
    
    
    
    
    
    176,400
    
    
    
    
    
    
    
    9,263FormerExecutive Vice
President
    
    
    2002
    
    
    
    85,200
    
    
    
    40,000
    
    
    
    88,200
    
    
    
    
    
    
    
    13,207Chief Administration Officer
    
    
    2001
    
    
    
    166,896
    
    
    
    91,460
    
    
    
    
    
    
    
    
    
    
    
    15,007
  (1)
    
    2003 amounts include $13,020 imputed interest on an interest-free
loan made to Mr. Hunter in 1997. The balance of the loan at December
31, 2003 is $775,500. Such amounts include a consulting fee of
$176,400 to Mr. Stahl.(2)
    
    Amounts reported for fiscal year 2003 were as follows: Key Man
    
    Disability401K
    
    Insurance
    
    Insurance
    
    TravelName
    
    Contribution
    
    Premiums
    
    Premiums
    
    AllowanceRonald D. Hunter
    
    $
    8,000
    
    
    $
    39,740
    
    
    $
    6,955
    
    
    $
    9,000P.B. (Pete) Pheffer
    
    
    8,000
    
    
    
    9,350
    
    
    
    6,202
    
    
    
    4,500Stephen M. Coons
    
    
    8,000
    
    
    
    2,408
    
    
    
    1,911
    
    
    
    4,500Marc D. Novotney
    
    
    3,000
    
    
    
    
    
    
    
    
    
    
    
    Edward T. Stahl
    
    
    7,056
    
    
    
    2,207
    
    
    
    
    
    
    
    
 The following table provides information regarding stock options granted
of the named executive officers (collectively, Messrs. Hunter, Pheffer, Coons
and Novotney are referred to as the Named Executive Officers) during the year
ended December 31, 2003. Individual Grants Potential RealizableValue at AssumedNumber of
    
    % of Total
    
    Exercise
    
    
    
    
    
    Annual Rates of StockSecurities
    
    Options
    
    or Base
    
    
    
    
    
    Appreciation for OptionUnderlying
    
    Granted to
    
    Price
    
    Expir-
    
    Term (1)Options
    
    Employees in
    
    ($/Share)
    
    ationName
    
    Granted
    
    Fiscal Year
    
    (1)
    
    Date
    
    5%
    
    10%Ronald D. Hunter
    
    
    250,000
    
    
    
    43.1
    %
    
    $
    3.20
    
    
    
    2013
    
    
    $
    572,343
    
    
    $
    1,385,228P. B. (Pete) Pheffer
    
    
    125,000
    
    
    
    21.6
    
    
    
    3.20
    
    
    
    2013
    
    
    
    286,172
    
    
    
    671,364Marc D. Novotney
    
    
    75,000
    
    
    
    12.9
    
    
    
    3.25
    
    
    
    2013
    
    
    
    167,953
    
    
    
    411,818Stephen M.
Coons
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
  (1)
    
    The potential realizable value illustrates value that might be realized
upon exercise of the options immediately prior to the expiration of their
term , assuming the specified compounded rates of appreciation on the
common stock over the terms of the options. These numbers do not take
into account plan provisions providing for termination of the options
following termination of employment of non-transferability. 50




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##### Table of Contents



No stock options were exercised by Named Executive Officers during
fiscal year 2003. The following table sets forth information with respect to
Named Executive Officers concerning unexercised options held as of the end of
fiscal year 2003. AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTION VALUES Value of UnexercisedNumber of Securities Underlying
    
    In the MoneyUnexercised Options at FY-End
    

    Options at FY-End ($)Name
    
    Exercisable
    
    Unexercisable
    
    Exercisable
    
    UnexercisableRonald D. Hunter
    
    $
    771,428
    
    
    $
    166,667
    
    
    $
    14,167
    
    
    $
    28,333P.B. (Pete) Pheffer
    
    
    334,167
    
    
    
    83,333
    
    
    
    7,083
    
    
    
    14,167Stephen M. Coons
    
    
    265,260
    
    
    
    
    
    
    
    
    
    
    
    Marc D. Novotney
    
    
    25,000
    
    
    
    50,000
    
    
    
    3,083
    
    
    
    6,167
 Employment Agreements We
have employment agreements with Messrs. Hunter, Pheffer and Coons. These employment agreements terminate as follows:  
    
    Mr. Hunters employment agreement will initially run for a
five-year period terminating on January 1, 2008, and it shall
automatically renew annually for successive five-year periods on
January 1 of each year, unless either party elects not to renew in
accordance with the terms of the agreement.
    
    Mr. Pheffers employment agreement will initially run for a
three-year period terminating on January 1, 2006, and it shall
automatically renew annually for successive three-year periods on
January 1 of each year, unless either party elects not to renew in
accordance with the terms of the agreement.
    
    Mr. Coons employment agreement terminates on July 1, 2005. If Mr. Hunter or Mr. Pheffers employment is terminated, for a period of
two years thereafter, each shall not:  
    
    Within Indiana, render any services as an agent, independent
contractor, consultant or otherwise become employed in the business
of selling or providing life, accident or health insurance products
or lending or other financial products or services sold by us or our
subsidiaries.
    
    Within Indiana, in any manner compete with us or with any of
our subsidiaries.
    
    Solicit or attempt to convert to other insurance carriers
providing similar products or services provided by us, and our
customers or policyholders. If Mr. Coons employment is terminated, for a period of one year
thereafter, he shall not:  
    
    Sell or attempt to sell, within Indiana, any type of our insurance products.
    
    Sell or attempt to sell any types of our insurance products that we market to our customers.
    
    Within Indiana, own, be employed by, or be connected in any
manner with any business similar to our type of business. 51




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Following a termination of Mr. Hunters employment with us, in the event
of a change-in-control, Mr. Hunter would be entitled to receive a lump-sum
payment equal to five times the sum of his then-current base salary, and the
average amount of the bonuses paid to him for the five preceding fiscal years.
Mr. Hunter would also be entitled to receive a lump-sum payment equal to the
amount determined by multiplying the number of shares of common stock subject
to unexercised stock options previously granted by us and held by Mr. Hunter on
the date of termination, whether or not such options are then exercisable, by
the greater of (1) the highest sales price of the common stock during the
preceding six-month period, and (2) the highest price paid to the holders of
our common stock whereby the change in control takes place. Following a termination of Mr. Pheffers employment with us, in the event
of a change-in-control, Mr. Pheffer would be entitled to receive a lump-sum
payment equal to three times the sum of his then-current base salary, and the
average amount of the bonuses paid to him for the three preceding fiscal years.
Mr. Pheffer would also be entitled to receive a lump-sum payment equal to the
amount determined by multiplying the number of shares of common stock subject
to unexercised stock options previously granted by us and held by Mr. Pheffer
on the date of termination, whether or not such options are then exercisable,
by the greater of (1) the highest sales price of the common stock during the
preceding six-month period, and (2) the highest price paid to the holders of
our common stock whereby the change in control takes place. Following a termination of Mr. Coons employment with us in the event of a
change-in-control, Mr. Coons would be entitled to receive a lump-sum payment
equal to 2.99 times his average annual compensation payable by us to him for
the five preceding calendar years and a lump-sum payment, the amount determined
by multiplying the number of shares of common stock subject to unexercised
stock options previously granted by us and held by Mr. Coons on the date of
termination, whether or not such options are then exercisable, and the highest
per share fair market value of the common stock on any day during the six-month
period ending on the date of termination. Upon payment of such amount, such
unexercised stock options will be deemed to be surrendered and canceled. We are obligated to pay a bonus to the Messrs. Hunter, Pheffer and Coons
as follows:  
    
    Mr. Hunter receives a bonus equal to 3% of our annual gross operating
income, but not less than 10% of his annual salary.
    
    Mr. Pheffer receives a bonus equal to 2% of our annual gross
operating income, but not less than 10% of his annual salary.
    
    Mr. Coons receives a bonus equal to 1 1/2% of our annual gross
operating income, but not less than 10% of his annual salary. 52




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Item 12. Security Ownership of Certain Beneficial Owners and Management The following table sets forth certain information as of December 31, 2003
with respect to ownership of our outstanding common stock by:  
    
    all persons known to us to own more than 5% of the outstanding shares of our common stock;
    
    each of our directors;
    
    each Named Executive Officer (as such term is defined in the 10-K); and
    
    all of our executive officers and directors as a group. Name
    
    Number of Shares Owned (1)
    
    Percent (2)Ronald D. Hunter
    
    
    1,015,880
    (3)
    
    
    12.52
    %P.B. (Pete) Pheffer
    
    
    361,678
    
    
    
    4.46Martial R. Knieser
    
    
    348,540
    (4)
    
    
    4.30Stephen M. Coons
    
    
    302,910
    
    
    
    3.73Robert A. Borns
    
    
    102,700
    
    
    
    1.27Marc D. Novotney
    
    
    25,000
    
    
    
    *Robert J. Salyers
    
    
    3,650
    
    
    
    *James H. Steane II
    
    
    3,500
    
    
    
    *All directors and Named
Executive Officers as a group
(8 persons)
    
    
    2,003,990
    
    
    
    26.67Dimensional
Fund Advisors, Inc.
1299 Ocean Avenue, 11th Floor
Santa Monica, California 90401
    
    
    463,435
    (5)
    
    
    5.71Henry George
Luken, III
900 Fairway Lane
Soddy Daisy, Tennessee 37379
    
    
    565,845
    (6)
    
    
    6.97
   * Represents less than one percent  (1)
    
    Except as otherwise noted below, each person named in the table possesses
sole voting and sole investment power with respect to all shares of common
stock listed in the table as owned by such person. Shares beneficially
owned include shares that may be acquired pursuant to the exercise of
outstanding options, warrants or convertible securities that are
exercisable within 60 days of December 31, 2003 as follows: Mr. Hunter 
771,428, Dr. Knieser  46,050, Mr. Coons  265,260, Mr. Pheffer  334,167,
Mr. Novotney  25,000, Mr. Borns  25,000, Mr. Salyers  1,500, Mr. Steane
 500, directors and Named Executive Officers as a group  1,443,905.(2)
    
    Percentage of total outstanding shares is calculated separately for each
person on the basis of the actual number of outstanding shares as of
December 31, 2003 and assumes, for purposes of the calculation, that shares issuable upon exercise of options or warrants exercisable and
securities convertible within 60 days held by such person, but no other
shareholders, had been issued as of the date the calculation was made.(3)
    
    Includes 4,006 shares beneficially owned by Mr. Hunters spouse/child, as
to which Mr. Hunter disclaims beneficial ownership.(4)
    
    Includes 6,153 shares beneficially owned by Dr. Kniesers spouse and
children, as to which shares Dr. Knieser disclaims beneficial ownership. 53




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(5)
    
    Information with respect to Dimensional Fund Advisors, Inc. is based
solely on a review of statements on Schedule 13G filed by this entity with
the SEC. The Company makes no representation as to the accuracy or
completeness of the information reported.(6)
    
    Information with respect to Henry George Luken, III is based solely on a
review of statements on Schedule 13D filed by Mr. Luken with the SEC. The
Company makes no representation as to the accuracy or completeness of the
information reported. 
 Item 13. Certain Relationship and Related Transactions Our Articles of Incorporation and Bylaws provide for indemnification of
our officers and directors to the maximum extent permitted under the Indiana
Business Corporation Law (IBCL). In addition, we have entered into separate
indemnification agreements with some of our directors which may require, among
other things, to indemnify them against certain liabilities that may arise by
reason of their status or service as directors to the maximum extent permitted
under the IBCL. On October 28, 1997, we made an interest free loan to Mr. Hunter, Chairman
and Chief Executive Officer, in the amount of $775,500. The loan is repayable
within 10 days of Mr. Hunters voluntary termination or resignation as our
Chairman and Chief Executive Officer. In the event of a termination of Mr.
Hunters employment following a change in control, the loan is deemed to be
forgiven. 
 Item 14. Principal Accounting Fees and Services The following table sets forth the fees paid to Ernst & Young LLP, the
Companys independent public accountants, during the last two fiscal years: 2003
    
    2002Audit fees:
    
    
    296,260
    
    
    
    284,900Audit-related fees:
    
    
    393,467
    
    
    
    102,000Tax fees:
    
    
    30,000
    
    
    
    52,000All other fees:
    
    
    1,500
    
    
    
    
 Audit Feesare fees for professional services rendered by Ernst & Young
for the audit of our annual financial statements, review of our quarterly
financial statements or services normally provided in connection with statutory
or regulatory filings. Audit-Related Feesare fees for assurance and related services reasonably
related to the performance of the audit or review of our financial statements. Tax Feesare fees for professional services rendered by Ernst & Young for
tax compliance, tax advice and tax planning. Services performed by Ernst &
Young in this category for included the review of the Companys federal income
tax return. All Other Feesare fees for professional services not included in the
first three categories. Each
of the above services was approved by the Audit Committee. Each engagement of the independent public accountants to perform audit or
non-audit services must be approved in advance by our Audit Committee or by its
Chairman pursuant to delegated authority. 54




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PART IV 
 Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K (a)(1) and (2) The response to this portion of Item 15 is submitted as a
separate section of this report. (a)(3) List of Exhibits: ExhibitNumber
    
    Description of Document2.1
    
    Purchase Agreement by and between Standard Management and
Winterthur Life, dated May 28, 2002 (incorporated by reference to
Standard Managements Quarterly Report on Form 10-Q (File No.
0-20882) for the quarter ended September 30, 2002).2.2
    
    Amendment to Purchase Agreement by and between Standard
Management and Winterthur Life, dated August 9, 2002
(incorporated by reference to Standard Managements Quarterly
Report on Form 10-Q (File No. 0-20882) for the quarter ended
September 30, 2002).3.1
    
    Amended and Restated Articles of Incorporation, as amended
(incorporated by reference to Annual Report on Form 10-K (File No.
0-20882) for the year ended December 31, 1996).3.2
    
    Amended and Restated Bylaws as amended (incorporated by reference
to Registration Statement on Form S-1 (Registration No. 33-53370) as
filed with the Commission on January 27, 1993 and to Exhibit 3 of
Quarterly Report on Form 10-Q (File No. 0-20882) for the quarter
ended September 30, 1994).4.1
    
    Certificate of Trust of SMAN Capital Trust I (incorporated by
reference to Registration Statement on Form S-1 (Registration No.
333-60886))4.2
    
    Trust Agreement of SMAN Capital Trust I (incorporated by reference
to Registration Statement on Form S-1 (Registration No. 333-60886))4.3
    
    Form of Amended and Restated Trust Agreement of SMAN Capital Trust
I among Standard Management, Bankers Trust Company and Bankers Trust
(Delaware) (incorporated by reference to Registration Statement on
Form S-1 (Registration No. 333-60886))4.4
    
    Form of Preferred Securities Certificates (incorporated by
reference to Registration Statement on Form S-1 (Registration No.
333-60886))4.5
    
    Form of Junior Subordinated Indenture between Standard Management
and Bankers Trust Company (incorporated by reference to
Registration Statement on Form S-1 (Registration No. 333-60886))4.6
    
    Form of Junior Subordinated Debenture (incorporated by reference to
Registration Statement on Form S-1 (Registration No. 333-60886))4.7
    
    Form of Preferred Securities Guarantee Agreement between Standard
Management and Bankers Trust Company (incorporated by reference to
Registration Statement on Form S-1 (Registration No. 333-60886))
 55




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4.8
    
    Form of Presidents Club Warrant (incorporated by reference to
Annual Report on Form 10-K (File No. 0-20882)).10.1*
    
    Employment Agreement by and between Standard Management and Ronald
D. Hunter, dated and effective January 1, 2003 (incorporated by
reference to Quarterly Report on Form 10-Q (File No. 0-20882) for
the quarter ended March 31, 2003).10.2*
    
    Second Amended and Restated Employment Contract by and between
Standard Management and Stephen M. Coons dated and effective, as
amended, July 1, 1999 (incorporated by reference to Quarterly Report
on Form 10-Q (File No. 0-20882) for the quarter ended September 30,
1999).10.3*
    
    Indemnification Agreement between Standard Management and Stephen
M. Coons and Coons & Saint, dated August 1, 1991 (incorporated by
reference to Registration Statement on Form S-1 (Registration No.
33-53370) as filed with the Commission on January 27, 1993).10.4*
    
    Standard Management Amended and Restated 1992 Stock Option Plan
(incorporated by reference to Registration Statement on Form S-4
(Registration No. 333-35447) as filed with the Commission on
September 11, 1997.10.5
    
    Lease by and between Standard Life and Standard Management, dated
December 28, 2001.10.6
    
    Management Service Agreement between Standard Life and Standard
Management dated August 1, 1992, as amended on January 1, 1997 and
as further amended on January 1, 1999 (incorporated by reference to
Annual Report on Form 10-K (File No. 0-20882)).10.7
    
    Agreement for Assumption Reinsurance between the National
Organization Of Life and Health Insurance Guaranty Associations and
Standard Life, concerning, The Midwest Life Insurance Company In
Liquidation effective June 1, 1992 (incorporated by reference to
Registration Statement on Form S-1 (Registration No. 33-53370) as
filed with the Commission on January 27, 1993).10.8
    
    Reinsurance Agreement between Standard Life and Swiss Re Life and
Health effective May 1, 1975 (incorporated by reference to
Registration Statement on Form S-1 (Registration No. 33-53370) as
filed with the Commission on January 27, 1993).10.9
    
    Reinsurance Agreement between Firstmark Standard Life Insurance
Company and Swiss Re Life and Health effective February 1, 1984
(incorporated by reference to Registration Statement on Form S-1
(Registration No. 33-53370) as filed with the Commission on January
27, 1993).10.10
    
    Reinsurance Contract between First International and Standard Life
dated July 10, 1992 (incorporated by reference to Registration
Statement on Form S-1 (Registration No. 33-53370) as filed with the
Commission on January 27, 1993).10.11
    
    Amended Reinsurance Agreement between Standard Life and Winterthur
Life Re Insurance Company effective January 1, 1995 (incorporated by
reference to Annual Report on Form 10-K (File No. 0-20882) for the
year ended December 31, 1996).
 56




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10.12
    
    Assignment of Management Contract dated October 2, 1995 of
Management Contract dated January 1, 1987 between DNC and Dixie Life
to Standard Life (incorporated by reference to Annual Report on Form
10-K (File No. 0-20882) for the year ended December 31, 1996).10.13
    
    Automatic Indemnity Reinsurance Agreement between First
International and The Guardian Insurance & Annuity Company, Inc.
dated and effective January 1, 1996 (incorporated by reference to
Annual Report on Form 10-K (File No. 0-20882) for the year ended
December 31, 1996).10.14
    
    Indemnity Retrocession Agreement between The Guardian Insurance &
Annuity Company, Inc. and Standard Life dated and effective January
1, 1996 (incorporated by reference to Annual Report on Form 10-K
(File No. 0-20882) for the year ended December 31, 1996).10.15
    
    Automatic Indemnity Reinsurance Agreement between The Guardian
Insurance & Annuity Company, Inc. and Standard Life dated and
effective January 1, 1996 (incorporated by reference to Annual
Report on Form 10-K (File No. 0-20882) for the year ended December
31, 1996).10.16
    
    Administrative Services Agreement between First International and
Standard Life dated and effective March 18, 1996 (incorporated by
reference to Annual Report on Form 10-K (File No. 0-20882) for the
year ended December 31, 1996).10.17
    
    Surplus Debenture dated as of November 8, 1996 by and between
Standard Management and Standard Life in the amount of
$13,000,000 (incorporated by reference to Quarterly Report on
Form 10-Q (File No. 0-20882) for the quarter ended September
30, 1996).10.18
    
    Portfolio Indemnify Reinsurance Agreement between Dixie Life and
Cologne Life Reinsurance Company dated and effective December 31,
1997 (incorporated by reference to Annual Report on Form 10-K (File
No. 0-20882) for the year ended December 31, 1996).10.19
    
    Coinsurance Agreement effective as of July 1, 1997 by and between
Savers Life and World Insurance Company (incorporated by reference
to Registration Statement on Form S-4 (Registration No. 333-35447)).10.20
    
    Amendment I to the Guardian Indemnity Retrocession Agreement
effective as of January 1, 1996 by and between The Guardian
Insurance and Annuity Company and Standard Life (incorporated by
reference to Registration Statement on Form S-4 (Registration No.
333-35447)).10.21
    
    Promissory Note from Ronald D. Hunter to Standard Management in
the amount of $775,500 executed October 28, 1997 (incorporated by
reference to Quarterly Report on Form 10-Q (File No. 0-20882) for
the quarter ended September 30, 1997).10.22
    
    Reinsurance Agreement between Standard Life and Life Reassurance
Corporation of America effective September 1, 1997 (incorporated by
reference to Annual Report on Form 10-K (File No. 0-20882) for the
year ended December 31, 1997).10.23
    
    Reinsurance Agreement between Standard Life and Business Mens
Assurance Company of America effective September 1, 1997
(incorporated by reference to
 57




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Annual Report on Form 10-K (File No.
0-20882) for the year ended December 31, 1997).10.24
    
    Indemnity Reinsurance Agreement between Standard Life and the
Mercantile and General Life Reassurance Company of America dated
March 30, 1998 and effective June 1, 1997 (incorporated by reference
to Quarterly Report on Form 10-Q (File No. 0-20882) for the quarter
ended June 30, 1998).10.25
    
    Quota Share Reinsurance Agreement between Savers Life and the
Oxford Life Insurance Company dated September 24, 1998 and effective
July 1, 1998 (incorporated by reference to Quarterly Report on Form
10-Q (File No. 0-20882) for the quarter ended September 30, 1998).10.26
    
    Addendum No. 5 to Reinsurance Agreement between Standard Life and
Winterthur Life Re Insurance Company dated August 20, 1998 and
effective October 1, 1998 (incorporated by reference to Quarterly
Report on Form 10-Q (File No. 0-20882) for the quarter ended
September 30, 1998).10.27
    
    Surplus debenture dated as of December 31, 1998 by and between
Standard Management and Standard Life in the amount of $8.0
million (incorporated by reference to Annual Report on Form
10-K (File No. 0-20882) for the year ended December 31, 1998).10.28
    
    Surplus debenture dated as of December 31, 1998 by and between
Standard Management and Standard Life in the amount of $6.0 million
(incorporated by reference to Annual Report on Form 10-K (File No.
0-20882) for the year ended December 31, 1998).10.29*
    
    Employment Agreement between Standard Management and P.B. (Pete)
Pheffer dated and effective January 1, 2003, (incorporated by
reference to Quarterly Report on Form 10-Q (File No. 0-20882) for
the quarter ended March 31, 2003).10.30
    
    Note Agreement dated October 31, 2000 by and between Standard
Management and Zurich Capital Markets, Inc. in the amount of $11.0
million. Included as an exhibit to this note agreement is an
Investment Advisory Agreement dated December 1, 2000 by and between
Standard Management and Scudder Kemper Investments, Inc.
(incorporated by reference to Annual Report in Form 10-K (File No.
0-20882) for the year ended December 31, 2000).10.31
    
    Promissory Note for $6.9 million between Standard Management
and Republic Bank dated December 28, 2001 (incorporated by
reference to Annual Report on Form 10-K (File No. 0-20882) for
the year ended December 31, 2001).10.32*
    
    Standard Management Corporation 2002 Stock Incentive Plan
(incorporated by reference to Standard Managements Registration
Statement on Form S-8 (Registration No. 333-101359)).10.33*
    
    Deferred Compensation Plan of Standard Management dated and
effective December 31, 2001 (incorporated by reference to Annual
Report on Form 10-K (File No. 0-20882) for the year ended December
31, 2001).10.34
    
    Senior Secured Credit Agreement, dated November 13, 2003, between
Standard Management and The CIT Group/Equipment Financing, Inc.
(incorporated by reference to Current Report on Form 8-K, (File No.
0-20882), date of report November 17, 2003).
 58




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10.35
    
    Pledge Agreement, dated November 13, 2003, between Standard
Management and The CIT Group/Equipment Financing, Inc. (incorporated
by reference to Current Report on Form 8-K, (File No. 0-20882), date
of report November 17, 2003).10.36
    
    Security Agreement, dated November 13, 2003, between Standard
Management and The CIT Group/Equipment Financing, Inc. (incorporated
by reference to Current Report on Form 8-K, (File No. 0-20882), date
of report November 17, 2003).21
    
    List of Subsidiaries of Standard Management (incorporated by
reference to Annual Report on Form 10-K (File No. 0-20882) for the
year ended December 31, 2002).23.1
    
    Consent of Ernst & Young LLP.23.2
    
    Consent of KPMG Audit.24
    
    Powers of Attorney (Included on the signature page to this Form 10-K).31.1
    
    Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.32
    
    Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    (b) Reports on Form 8-K In the fourth quarter of 2003, we filed the following current reports on
Form 8-K: 1) on November 19, 2003, we filed a report on Form 8-K with the Commission
related to the announcement of our financial results for the third quarter of
2003, and  59




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SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized. Date: March 30, 2004
    
    
    
    
    
    STANDARD MANAGEMENT CORPORATION/s/ Ronald D. HunterRonald D. HunterDirector, Chairman and Chief Executive Officer
 Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below on March 30, 2004 by the following persons on
behalf of the Registrant and in the capacities indicated. KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Ronald D. Hunter and Stephen M. Coons and each of them
(with full power of each of them to act alone), his attorneys-in-fact and
agents, with full power of substitution, for him and in his name, place and
stead in any and all capacities, to sign any and all amendments to this Annual
Report on Form 10-K or any other instruments he deems necessary or appropriate,
and to file the same, with all exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto said attorneys-in-fact and agents, full power and authority to do and
perform each and every act and thing requisite and necessary to be done as
fully to all intents and purposes as he might or could do in person, hereby
ratifying and confirming all that said attorneys-in-fact and agents or any of
them may lawfully do or cause to be done by virtue thereof. /s/ Ronald D. HunterRonald D. Hunter
    
    
    
    Director, Chairman and Chief Executive Officer(Principal Executive Officer)/s/ P.B. (Pete) PhefferP.B. (Pete) Pheffer
    
    
    
    Director, President and Chief Financial Officer(Principal Financial Officer)/s/ Gerald R. HochgesangGerald R. Hochgesang
    
    
    
    Senior Vice President  Finance and Treasurer(Principal Accounting Officer)/s/ Stephen M. CoonsStephen M. Coons
    
    
    
    Director/s/ Martial R. KnieserMartial R. Knieser
    
    
    
    Director/s/ Robert A. BornsRobert A. Borns
    
    
    
    Director/s/ James H. Steane IIJames H. Steane II
    
    
    
    Director/s/ Robert J. SalyersRobert J. Salyers
    
    
    
    Director
 60




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ANNUAL REPORT ON FORM 10-K ITEM 8, ITEM 14(a)(1) AND (2),(c) AND (d) FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA LIST OF FINANCIAL STATEMENTS and FINANCIAL STATEMENT SCHEDULES CERTAIN EXHIBITS FINANCIAL STATEMENT SCHEDULES Year Ended December 31, 2003 STANDARD MANAGEMENT CORPORATION INDIANAPOLIS, INDIANA




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STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
INDEX TO AUDITED CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES PageAudited Consolidated Financial StatementsReport of Independent Auditors
    
    
    F-2Consolidated Balance Sheets as of December 31, 2003 and 2002
    
    
    F-3Consolidated Statements of Income for the Years Ended
December 31, 2003, 2002 and 2001
    
    
    F-4Consolidated Statements of Shareholders Equity for the Years Ended
December 31, 2003, 2002 and 2001
    
    
    F-6Consolidated Statements of Cash Flows for the Years Ended
December 31, 2003, 2002 and 2001
    
    
    F-8Notes to Consolidated Financial Statements
    
    
    F-9Financial Statement SchedulesThe following consolidated financial statement schedules are included in this report and should be read in
conjunction with the Audited Consolidated Financial Statements.Schedule II  Condensed Financial Information of Registrant
(Parent Company) for the Years Ended December 31, 2003, 2002 and 2001
    
    
    F-30Schedule IV  Reinsurance for the Years Ended December 31, 2003, 2002 and 2001
    
    
    F-34Schedules not listed above have been omitted because they are not applicable or
are not required, or because the required information is included in the
Audited Consolidated Financial Statements or related Notes.
 F-1




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Report of Independent Auditors Shareholders and Board of Directors
Standard Management Corporation We have audited the accompanying consolidated balance sheets of Standard
Management Corporation and subsidiaries as of December 31, 2003 and 2002, and
the related consolidated statements of income, shareholders equity and cash
flows for each of the three years in the period ended December 31, 2003. Our
audits also included the financial statement schedules listed in the Index at
Item 15 (a). These financial statements and schedules are the responsibility of
the Companys management. Our responsibility is to express an opinion on these
financial statements and schedules based on our audits. We did not audit the
consolidated statements of operations, shareholders equity and cash flows for
the year ended September 30, 2001 of Standard Management International S.A. and
subsidiaries, a wholly owned subsidiary group, which financial statements
reflect revenues totaling approximately 11% of consolidated revenue for the
period ended December 31, 2001. Those financial statements, which as explained
in Note 1, are included in the Companys consolidated statements of income,
shareholders equity and cash flows for the year ended December 31, 2001,
were audited by other auditors whose report has been furnished to us, and our
opinion, insofar as it relates to the amounts included for Standard Management
International S.A., is based solely on the report of other auditors. We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and the report of
other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of other auditors, the
financial statements referred to above present fairly, in all material
respects, the consolidated financial position of Standard Management
Corporation and subsidiaries at December 31, 2003 and 2002, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 2003, in conformity with
accounting principles generally accepted in the United States. Also, in our
opinion, the related financial statement schedules, when considered in relation
to the basic financial statements taken as a whole, present fairly in all
material respects the information set forth therein. As discussed in Note 1 to the consolidated financial statements, in 2002
the Company adopted Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible Assets. Ernst & Young LLP
 Indianapolis, Indiana
March 2, 2004 F-2




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STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands, Except Per Share Amounts) December 312003
    
    2002ASSETSInvestments:Securities available for sale:Fixed maturity securities, at fair value (amortized cost:$1,638,048 in 2003 and $1,350,961 in 2002)
    
    $
    1,644,837
    
    
    $
    1,379,792Mortgage loans on real estate
    
    
    3,937
    
    
    
    6,348Policy loans
    
    
    12,308
    
    
    
    12,722Real estate
    
    
    943
    
    
    
    1,252Equity-indexed call options
    
    
    19,711
    
    
    
    3,904Other invested assets
    
    
    2,690
    
    
    
    1,076Short-term investments
    
    
    590
    
    
    
    713Total investments
    
    
    1,685,016
    
    
    
    1,405,807Cash and cash equivalents
    
    
    17,296
    
    
    
    60,197Accrued investment income
    
    
    17,002
    
    
    
    16,255Amounts due and recoverable from reinsurers
    
    
    36,277
    
    
    
    38,951Deferred policy acquisition costs
    
    
    166,411
    
    
    
    153,954Present value of future profits
    
    
    16,508
    
    
    
    14,949Goodwill and intangibles
    
    
    10,961
    
    
    
    6,417Property and equipment (less accumulated depreciation of $5,286 in
2003
and $3,903 in 2002)
    
    
    12,770
    
    
    
    12,832Federal income tax recoverable
    
    
    6,429
    
    
    
    Other assets
    
    
    5,201
    
    
    
    5,785Total assets
    
    $
    1,973,871
    
    
    $
    1,715,147LIABILITIES AND SHAREHOLDERS EQUITYLiabilities:Insurance policy liabilities
    
    $
    1,841,545
    
    

    $
    1,570,348Accounts payable and accrued expenses
    
    
    7,217
    
    
    
    5,561Obligations under capital lease
    
    
    551
    
    
    
    804Mortgage payable
    
    
    6,795
    
    
    
    6,757Notes payable
    
    
    21,000
    
    
    
    13,000Current income taxes
    
    
    
    
    
    
    3,811Deferred income taxes
    
    
    3,616
    
    
    
    6,432Total liabilities
    
    
    1,880,724
    
    
    
    1,606,713Company-obligated trust preferred securities
    
    
    20,700
    
    
    
    20,700Shareholders Equity:Common stock and additional paid in capital, no par value
Authorized 20,000,000 shares; issued 9,629,167 in 2003 and
9,369,752 in 2002
    
    
    68,078
    
    
    
    63,857Treasury stock, at cost, 1,515,078 shares in 2003 and 2002

    
    
    (7,671
    )
    
    
    (7,671
    )Accumulated other comprehensive income
    
    
    2,702
    
    
    
    11,739Retained earnings
    
    
    9,338
    
    
    
    19,809Total shareholders equity
    
    
    72,447
    
    
    
    87,734Total liabilities and shareholders equity
    
    $
    1,973,871
    
    
    $
    1,715,147
 See accompanying notes to consolidated financial statements F-3




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in Thousands, Except Per Share Amounts) Year Ended December 312003
    
    2002
    
    2001Revenues:Premium income
    
    $
    8,929
    
    
    $
    9,173
    
    
    $
    9,419Net investment income
    
    
    83,009
    
    
    
    75,839
    
    
    
    58,539Call option income (loss)
    
    
    11,951
    
    
    
    (10,089
    )
    
    
    (5,906
    )Net realized investment gain (loss)
    
    
    17,876
    
    
    
    (19,841
    )
    
    
    (10,351
    )Policy income
    
    
    10,839
    
    
    
    8,084
    
    
    
    7,721Sales of goods
    
    
    2,948
    
    
    
    1,850
    
    
    
    Fee and other income
    
    
    1,021
    
    
    
    3,208
    
    
    
    7,348Total revenues from continuing operations
    
    
    136,573
    
    
    
    68,224
    
    
    
    66,770Benefits and expenses:Benefits and claims
    
    
    12,977
    
    
    
    9,938
    
    
    
    12,975Interest credited to interest-sensitive annuities and other financial
products
    
    
    71,600
    
    
    
    42,650
    
    
    
    30,227Amortization
    
    
    33,916
    
    
    
    10,622
    
    
    
    5,127Commission expenses
    
    
    64
    
    
    
    1,206
    
    
    
    3,871Operating expenses
    
    
    21,920
    
    
    
    15,228
    
    
    
    10,669Cost of goods sold
    
    
    2,445
    
    
    
    1,554
    
    
    
    Interest expense and financing costs
    
    
    4,474
    
    
    
    4,351
    
    
    
    3,492Total benefits and expenses from continuing operations
    
    
    147,396
    
    
    
    85,549
    
    
    
    66,361Income (loss) before federal income tax expense (benefit) and preferred
stock dividends
    
    
    (10,823
    )
    
    
    (17,325
    )
    
    
    409Federal income tax expense (benefit)
    
    
    (627
    )
    
    
    (9,467
    )
    
    
    195Income (loss) from continuing operations
    
    
    (10,196
    )
    
    
    (7,858
    )
    
    
    214Discontinued operations:Income from discontinued operations, less taxes of $0, $550 and
($185), respectively
    
    
    
    
    
    
    1,068
    
    
    
    1,566Gain (loss) from the sale of discontinued operations, less taxes of
$0, $4,125, and $0, respectively
    
    
    (275
    )
    
    
    6,872
    
    
    
    Total income (loss) from discontinued operations
    
    
    (275
    )
    
    
    7,940
    
    
    
    1,566Cumulative effect of change in accounting principle
    
    
    
    
    
    
    (1,212
    )
    
    
    Net income (loss)
    
    
    (10,471
    )
    
    
    (1,130
    )
    
    
    1,780Preferred stock dividends
    
    
    
    
    
    
    
    
    
    
    (318
    )Earnings (loss) available to common shareholders
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,462
 F-4




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (continued)
(Dollars in Thousands, Except Per Share Amounts) Year Ended December 312003
    
    2002
    
    2001Earnings
(loss) per common share - basic:Net income (loss) from continuing operations
    
    
    (1.27
    )
    
    
    (1.03
    )
    
    
    .03Discontinued operations:Income from discontinued operations
    
    
    
    
    
    
    .14
    
    
    
    .20Gain (loss) from the sale of discontinued operations
    
    
    (.03
    )
    
    
    .90
    
    
    
    Total income (loss) from discontinued operations
    
    
    (.03
    )
    
    
    1.04
    
    
    
    .20Cumulative effect of accounting change for goodwill impairment
    
    
    
    
    
    
    (.16
    )
    
    
    Net income (loss)
    
    
    (1.30
    )
    
    
    (.15
    )
    
    
    .23Preferred stock dividends
    
    
    
    
    
    
    
    
    
    
    (.04
    )Earnings (loss) available to common shareholders
    
    $
    (1.30
    )
    
    $
    (.15
    )
    
    $
    .19Earnings
(loss) per common share - diluted:Net income (loss) from continuing operations
    
    
    (1.26
    )
    
    
    (.99
    )
    
    
    .03Discontinued operations:Income from discontinued operations
    
    
    
    
    
    
    .13
    
    
    
    .20Gain (loss) from the sale of discontinued operations
    
    
    (.03
    )
    
    
    .87
    
    
    
    Total income (loss) from discontinued operations
    
    
    (.03
    )
    
    
    1.00
    
    
    
    .20Cumulative effect of accounting change for goodwill impairment
    
    
    
    
    
    
    (.15
    )
    
    
    Net income (loss)
    
    
    (1.29
    )
    
    
    (.14
    )
    
    
    .23Preferred stock dividends
    
    
    
    
    
    
    
    
    
    
    (.04
    )Earnings (loss) available to common shareholders
    
    $
    (1.29
    )
    
    $
    (.14
    )
    
    $
    .19
 See accompanying notes to consolidated financial statements F-5




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
(Dollars in Thousands) 5AccumulatedotherCommon
    
    Treasury
    
    comprehensive
    
    RetainedTotal
    
    stock
    
    stock
    
    income (loss)
    
    earningsBalance at January 1, 2001
    
    $
    62,899
    
    
    $
    63,019
    
    
    $
    (7,589
    )
    
    $
    (12,008
    )
    
    $
    19,477Comprehensive income:Net income
    
    
    1,780
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,780Other comprehensive income:Change in unrealized gain on securities,
net taxes of $2,897
    
    
    5,714
    
    
    
    
    
    
    
    
    
    
    
    5,714
    
    
    
    Change in foreign currency translation
    
    
    122
    
    
    
    
    
    
    
    
    
    
    
    122
    
    
    
    Other comprehensive income
    
    
    5,836
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive income
    
    
    7,616
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Adjustment of issuance of common stock warrants and
options
    
    
    (8
    )
    
    
    (8
    )
    
    
    
    
    
    
    
    
    
    
    Preferred stock dividends
    
    
    (318
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (318
    )Balance at December 31, 2001
    
    $
    70,189
    
    
    $
    63,011
    
    
    $
    (7,589
    )
    
    $
    (6,172
    )
    
    $
    20,939Comprehensive income:Net loss
    
    
    (1,130
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,130
    )Other comprehensive income:Change in unrealized gain on securities,
net taxes of $8,155
    
    
    15,665
    
    
    
    
    
    
    
    
    
    
    
    15,665
    
    
    
    Change in foreign currency translation
    
    
    2,246
    
    
    
    
    
    
    
    
    
    
    
    2,246
    
    
    
    Other comprehensive income
    
    
    17,911
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive income
    
    
    16,781
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Issuance of common stock and common stock warrants
    
    
    879
    
    
    
    879
    
    
    
    
    
    
    
    
    
    
    
    Exercise of common stock options
    
    
    (33
    )
    
    
    (33
    )
    
    
    
    
    
    
    
    
    
    
    Purchase of treasury stock
    
    
    (82
    )
    
    
    
    
    
    
    (82
    )
    
    
    
    
    
    
    Balance at December 31, 2002
    
    $
    87,734
    
    
    $
    63,857
    
    
    $
    (7,671
    )
    
    $
    11,739
    
    
    $
    19,809
 See accompanying notes to consolidated financial statements F-6




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY - continued
(Dollars in Thousands) AccumulatedotherCommon
    
    Treasury
    
    comprehensive
    
    RetainedTotal
    
    stock
    
    stock
    
    income (loss)
    
    earningsBalance at January 1, 2003
    
    $
    87,734
    
    
    $
    63,857
    
    
    $
    (7,671
    )
    
    $
    11,739
    
    
    $
    19,809Comprehensive loss:Net loss
    
    
    (10,471
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (10,471
    )Other comprehensive loss:Change in unrealized gain on securities,
net taxes of $4,563
    
    
    (9,037
    )
    
    
    
    
    
    
    
    
    
    
    (9,037
    )
    
    
    Other comprehensive loss
    
    
    (9,037
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive loss
    
    
    (19,508
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Issuance of common stock and common stock warrants
    
    
    4,243
    
    
    
    4,243
    
    
    
    
    
    
    
    
    
    
    
    Exercise of common stock options
    
    
    (22
    )
    
    
    (22
    )
    
    
    
    
    
    
    
    
    
    
    Balance at December 31, 2003
    
    $
    72,447
    
    
    $
    68,078
    
    
    $
    (7,671
    )
    
    $
    2,702
    
    
    $
    9,338
 See accompanying notes to consolidated financial statements F-7




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands) Year Ended December 312003
    
    2002
    
    2001Operating ActivitiesNet income (loss)
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,781Adjustments to reconcile net income (loss) to net cash provided by operating activities:Amortization of deferred policy acquisition costs
    
    
    18,914
    
    
    
    10,894
    
    
    
    9,037Deferral of policy acquisition costs
    
    
    (24,301
    )
    
    
    (62,619
    )
    
    
    (38,854
    )Deferred federal income taxes
    
    
    (6,585
    )
    
    
    (8,917
    )
    
    
    (270
    )Depreciation and amortization
    
    
    1,529
    
    
    
    1,509
    
    
    
    1,004Insurance policy liabilities
    
    
    58,212
    
    
    
    55,888
    
    
    
    23,972Net realized investment gains (losses)
    
    
    (17,876
    )
    
    
    19,841
    
    
    
    11,134Accrued investment income
    
    
    7,020
    
    
    
    1,285
    
    
    
    (500
    )Cumulative effect of change in accounting principle
    
    
    
    
    
    
    1,212
    
    
    
    Other
    
    
    347
    
    
    
    443
    
    
    
    686Net cash provided by operating activities
    
    
    26,789
    
    
    
    18,406
    
    
    
    7,990Investing ActivitiesFixed maturity securities available for sale:Purchases
    
    
    (1,553,539
    )
    
    
    (1,674,454
    )
    
    
    (546,548
    )Sales
    
    
    953,962
    
    
    
    1,218,478
    
    
    
    328,497Maturities, calls and redemptions
    
    
    322,838
    
    
    
    9,141
    
    
    
    17,236Short-term investments, net
    
    
    (3,731
    )
    
    
    (5,624
    )
    
    
    (2,574
    )Purchase of HomeMed Channel, Inc.
    
    
    
    
    
    
    (1,025
    )
    
    
    Purchase of MyDoc.com
    
    
    (145
    )
    
    
    
    
    
    
    Purchase of PCA, LLC
    
    
    
    
    
    
    (190
    )
    
    
    Proceeds from the sale of International Operations
    
    
    
    
    
    
    25,690
    
    
    
    Other investments, net
    
    
    (353
    )
    
    
    (2,304
    )
    
    
    (9,253
    )Net cash used by investing activities
    
    
    (280,968
    )
    
    
    (430,288
    )
    
    
    (212,642
    )Financing ActivitiesBorrowings
    
    
    26,915
    
    
    
    200
    
    
    
    26,218Repayments of notes payable and preferred stock
    
    
    (19,378
    )
    
    
    (6,943
    )
    
    
    (18,930
    )Premiums received on interest-sensitive annuities and other financial products credited
to policyholder account balances, net of premiums ceded
    
    
    418,149
    
    
    
    598,782
    
    
    
    322,473Return of policyholder account balances on interest-sensitive annuities and other
financial products
    
    
    (214,441
    )
    
    
    (137,989
    )
    
    
    (108,479
    )Issuance of common stock and warrants
    
    
    33
    
    
    
    (33
    )
    
    
    (8
    )Purchase of common stock for treasury
    
    
    
    
    
    
    (82
    )
    
    
    Dividends on preferred stock
    
    
    
    
    
    
    
    
    
    
    (318
    )Net cash provided by financing activities
    
    
    211,278
    
    
    
    453,935
    
    
    
    220,956Net increase (decrease) in cash
    
    
    (42,901
    )
    
    
    42,053
    
    
    
    16,304Cash and cash equivalents at beginning of year
    
    
    60,197
    
    
    
    18,144
    
    
    
    1,840Cash and cash equivalents at end of year
    
    $
    17,296
    
    
    $
    60,197
    
    
    $
    18,144
 See accompanying notes to consolidated financial statements F-8




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2003  1.
    
    Summary of Significant Accounting Policies Organization Standard Management Corporation (we, our, us, Standard Management
or the Company) is a holding company that a) develops, markets and/or
administers annuity and life insurance products and b) distributes
pharmaceutical goods and services through its health subsidiary. Standard Managements subsidiaries at December 31, 2003 include: 1)
Standard Life Insurance Company of Indiana (Standard Life) and its
subsidiary, Dixie National Life Insurance Company (Dixie Life) and 2) U.S.
Health Services Corporation (U.S. Health Services) and its subsidiaries, a)
HomeMed Channel, Inc. (HomeMed), b) PCA, LLC (PCA), c) Medical Care &
Outcomes, LLC (MCO) and d) HomeDoc Corporation (HomeDoc). Effective March 25, 2003, we acquired Medical Care & Outcomes, LLC,
(MCO). MCO provides an innovative tool for our health services segment to
acquire real-time patient data on compliance and therapeutic outcomes following
an office visit or hospital stay. The purchase price was 200,000 shares of our
common stock. The purchase price included contingent consideration, based on a
targeted closing sales price of our common stock on the anniversary date of the
acquisition over each of the next four years. The contingent consideration has
been recognized as additional paid in capital in our consolidated financial
statements. The purchase was accounted for under the purchase method of
accounting and resulted in recognizing a preliminary goodwill amount of $3.6
million. Under purchase accounting, we allocated the total purchase price of
the assets and liabilities acquired, based on a determination of the fair
values and recorded the excess of acquisition cost over net assets acquired as
goodwill and intangible assets. Effective June 11, 2003, we acquired the business assets of MyDoc.com
(renamed as HomeDoc Corporation) from Roche Diagnostics Corporation. HomeDoc
Corporation is the first virtual healthcare service where board-certified,
state-licensed physicians are available online, 24 hours a day / 7 days a week
to diagnose and treat common ailments and provide prescriptions. The purchase
price was $645,000 and additional contingent consideration of up to $500,000
may be paid, based on a percentage of gross revenue generated from the HomeDoc
service. The contingent consideration has not been recognized in the
consolidated financial statements and would be recorded in the future periods
upon achievement of the gross revenue targets. The purchase was accounted for
under the purchase method of accounting and resulted in recognizing a
preliminary goodwill amount of $622,000. In 2002, we sold our International Operations which consisted of 100% of
the shares in Premier Life (Luxembourg) S.A. and the portfolio of Premier Life
(Bermuda) Limited to Winterthur Life, a division of Credit Suisse Group,
resulting in a gain from the sale of discontinued operations of $6.9 million.
With the net proceeds received from the sale, we made a $15 million capital
contribution to Standard Life, repaid $3.75 million in debt, and retained the
remaining $6.25 million for general corporate purposes. Operating Segments We revised our operating segments as of January 1, 2003. The prior period
operating segments have been reclassified to reflect the current period
classification. The former Domestic Operations segment is categorized into the
following three continuing operating segments. Financial Services Our Financial Services segment consists of revenues earned and expenses
incurred from our insurance operations, particularly Standard Life and Dixie
Life. Our primary insurance products include deferred annuities, single
premium immediate annuities and equity-indexed annuities. The profitability of
this segment is primarily a function of net investment spread (the difference
between the investment income earned on our investments less the interest we
credit to our policyholders), persistency of our in force business, mortality
experience and management of our operating expenses. F-9




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  1.
    
    Summary of Significant Accounting Policies (continued) Health Services Our Health Services segment, which was formed in 2002, and is
conducted primarily through our subsidiary U.S. Health Services, develops
and distributes retail and third party reimbursed pharmaceutical products
and services through direct-to-consumer as well as institutional
channels. Our primary customer base consists of consumers, academic
institutions, skilled nursing facilities, assisted living facilities,
home health care agencies and mental health facilities. In addition, U.S.
Health Services acts as a wholesale distributor/repackager and a pharmacy
management solution to various sectors of the veterinary care industry.
The profitability of this segment is primarily a function of gross margin
on sales (the difference between sales and cost of sales) and management
of our operating expenses. Other Services Our Other Services segment consists of revenues and expenses
primarily related to corporate operations and financing costs. Discontinued Operations - International Operations Effective September 17, 2002 we concluded the sale of our International
Operations (discontinued operations). The results for International Operations
are recorded as discontinued operations. Use of Estimates The nature of our business requires us to make estimates and assumptions
that affect the amounts reported in the consolidated financial statements and
accompanying notes. For example, we use significant estimates and assumptions
in calculating deferred policy acquisition costs, present value of future
profits, goodwill, future policy benefits and deferred federal income taxes.
If future actual experience differs from these estimates and assumptions, our
financial statements could be materially affected. Investments We classify our fixed maturity and equity securities as available for sale
and, accordingly, these securities are carried at fair value. Fixed maturity
securities include bonds and redeemable preferred stocks. Changes in fair
values of securities available for sale, after adjustment for deferred policy
acquisition costs, present value of future profits and deferred income taxes,
are reported as unrealized gains or losses directly in shareholders equity
and, accordingly, have no effect on net income. The deferred policy acquisition
costs and present value of future profits adjustments to the unrealized gains
or losses represent valuation adjustments or reinstatements of these assets
that would have been required as a charge or credit to operations had such
unrealized amounts been realized. The cost of our fixed maturity securities is adjusted for amortization of
premiums and discounts. The amortization is provided on a constant effective
yield method over the life of the securities and is included in net investment
income. Mortgage-backed and other collateralized securities, classified as fixed
maturity securities in the consolidated balance sheets, are comprised
principally of obligations backed by an agency of the United States government
or by the full faith and credit of the U.S. government. The income from these
securities is recognized using a constant effective yield based on anticipated
prepayments and the estimated economic life of the securities. Mortgage loans on real estate and policy loans are carried at unpaid
principal balances and are collateralized. Real estate investments are carried
at cost, less accumulated depreciation. Short-term investments are carried at
amortized cost, which approximates fair value. Equity-indexed call options are derivative instruments linked to the major
stock indices (S&P 500 Index and DJIA Index), which are used to hedge the
equity benefits of our equity-indexed annuity products. We purchase call
options whose payoff characteristics mirror the equity benefits of our
products. These securities are carried at fair value and the change in fair
value is included in investment income. The liabilities for the hedged
insurance contracts are adjusted based on the return in the market indices and
are reflected in Insurance Policy Liabilities in the Consolidated Balance
Sheets. F-10




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  1.
    
    Summary of Significant Accounting Policies (continued) Net Realized Investment Gains and Losses We periodically evaluate whether the decline in fair value of our
investments is other-than-temporary. Our evaluation consists of a review of
qualitative and quantitative factors. We also consider additional factors to
determine whether the decline in fair value is other-than-temporary, such as
downgrades of the security by a rating agency, deterioration in the financial
condition of the issuer, and other publicly available issuer-specific news or
general market conditions. For investments in companies with no quoted market
price, we consider similar qualitative and quantitative factors and also take
into account the cost of the investment, the type of investment, subsequent
purchases of the same or similar investments, the current financial position
and operating results of the company invested in, and such other factors as may
be relevant. A decline in fair value of securities deemed to be
other-than-temporary is recognized as a reduction of net income. Determining what constitutes an other-than-temporary decline involves
significant judgment. A decline in fair value below cost not considered
other-than-temporary in the current period could be considered
other-than-temporary in a future period and reduce earnings to the extent of
the write-down. Future Policy Benefits Liabilities for future policy benefits for deferred annuities and
universal life policies are equal to full account value that accrues to the
policyholder (cumulative premiums less certain charges, plus interest
credited). Insurance policy liabilities for equity-indexed annuity products are
computed in accordance with Statement of Financial Accounting Standards
(SFAS) No. 133 (SFAS No. 133), Accounting for Derivative and Hedging
Activities, and consist of a book value liability for benefits guaranteed in
the contract, combined with a market value liability for equity-linked benefits
of the contract. Future policy benefits for traditional life insurance contracts are
computed using the net level premium method on the basis of assumed investment
yields, mortality and withdrawals, which were appropriate at the time, the
policies were issued. Assumed investment yields are based on interest rates
ranging from 6.2% to 7.5%. Mortality is based upon various actuarial tables,
principally the 1965-1970 or the 1975-1980 Select and Ultimate Table.
Withdrawals are based upon our experience and vary by issue age, type of
coverage, and duration. Our immediate annuities generally do not incorporate significant insurance
risk and are therefore classified as investment contracts rather than insurance
contracts. Consistent with similar types of investment contracts, immediate
annuity liabilities are computed using the constant yield method. Recognition of Insurance Policy Revenue and Related Benefits and Expenses Revenue for immediate annuities consists of investment income earned.
Expenses relating to immediate annuities include interest credited to
policyholder liabilities and administrative expenses. Revenue for deferred and equity-indexed annuity contracts consists of
policy charges for surrenders and investment income earned. Premiums received
for these annuity contracts are reflected as premium deposits and are not
recorded as revenues. Expenses related to these annuities include interest
credited to policyholder account balances and administrative expenses. Revenue for universal life insurance policies consists of policy
charges for the cost of insurance, policy administration charges,
surrender charges and investment income earned. Expenses related to
universal life policies include interest credited to policyholder account
balances, administrative expenses and death benefits incurred in excess
of policyholder account balances. Traditional life insurance premiums are recognized as premium revenue over
the premium-paying period of the policies. Benefits are charged to expense in
the period when claims are incurred and are associated with related premiums
through changes in reserves for future policy benefits, which results in the
recognition of profit over the premium paying period of the policies. F-11




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  1.
    
    Summary of Significant Accounting Policies (continued) Reinsurance Premiums, annuity policy charges, benefits and claims, interest credited
and amortization expense are reported net of reinsurance ceded and are
accounted for on a basis consistent with those used in accounting for the
original policies issued and the terms of the reinsurance contracts. Income Taxes Income tax assets and liabilities are recognized for the estimated future
tax consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
basis. Deferred tax assets and liabilities are measured using enacted tax rates
in effect for the year in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period in which the change
is enacted. We file a consolidated return, excluding U.S. Health Services, for federal
income tax purposes. Deferred Policy Acquisition Costs Costs relating to the production of new business (primarily commissions
and certain costs of marketing, policy issuance and underwriting) are deferred
and included in the deferred policy acquisition cost asset to the extent that
such costs are recoverable from future related policy revenues. For
interest-sensitive annuities and other financial products, deferred policy
acquisition costs, with interest, are amortized over the lives of the policies
and products in a constant relationship to the present value of estimated
future gross profits, discounted using the interest rate credited to the
policy. Traditional life insurance deferred policy acquisition costs are being
amortized over the premium-paying period of the related policies using
assumptions consistent with those used in computing policy benefit reserves. We review the recoverability of the carrying value of the deferred policy
acquisition costs each year. For interest-sensitive annuities and other
financial products, we consider estimated future gross profits in determining
whether the carrying value is appropriate; for other insurance products, we
consider estimated future premiums. In all cases, we consider expected
mortality, interest earned and crediting rates, persistency and expenses.
Amortization is adjusted retrospectively for interest-sensitive annuities and
other financial products when estimates of future gross profits to be realized
are revised. Immediate annuity deferred policy acquisition cost amortization is
computed in conjunction with the liability for future benefits using the
constant yield method. Present Value of Future Profits Present value of future profits are recorded in connection with
acquisitions of insurance companies or a block of policies. The initial value
is based on the actuarially determined present value of the projected future
gross profits from the in force business acquired. In selecting the interest
rate to calculate the discounted present value of the projected future gross
profits, we use the risk rate of return believed to best reflect the
characteristics of the purchased policies, taking into account the relative
risks of such policies, the cost of funds to acquire the business and other
factors. The value of in force insurance purchased is amortized on a constant
yield basis over its estimated life from the date of acquisition in proportion
to the emergence of profits or the expected premium pattern over a period of
approximately 20 years. For acquisitions we made on or before November 1992, we amortize the asset
with interest at the same discount rate used to determine the present value of
future profits at the date of purchase. For acquisitions after November 1992,
we amortize the asset using the interest rate credited to the underlying
policies. F-12




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  1.
    
    Summary of Significant Accounting Policies (continued) Goodwill and Intangible Assets On June 29, 2001, the Financial Accounting Standards Board (FASB) issued
SFAS No. 142, Goodwill and Other Intangible Assets (SFAS No. 142). SFAS No.
142 addresses accounting and reporting of acquired goodwill and other
intangible assets. We completed our impairment testing under the requirements
of SFAS No. 142 during the fourth quarter of 2002 and the results were applied
retroactively to January 1, 2002. As a result of our initial transitional
impairment test, we recorded an impairment charge of approximately $1.2 million
in our financial services segment retroactive to the first quarter of 2002,
which is presented as a cumulative effect of a change in accounting principle
in our consolidated financial statements. Stock Options We recognize compensation expense for our stock option plans using the
intrinsic value method of accounting. Under the intrinsic value method,
compensation cost is the excess, if any, of the quoted market price of the
stock at the grant date, or other measurement date, over the amount an employee
must pay to acquire the stock. Under our stock option plans, no expense is
recognized since the exercise price equals or exceeds the market price at the
measurement date. December 2002, the FASB issued SFAS Statement No. 148, Accounting for
Stock-Based Compensation-Transition and Disclosure, an amendment of SFAS
Statement No. 123, Accounting for Stock-Based Compensation. SFAS No. 148
provides alternative methods of transition for a voluntary change to the fair
value based method of accounting for stock-based compensation. In addition,
SFAS No. 148 requires more prominent disclosures in both the annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
Company has adopted the disclosure provisions of SFAS No. 148 and will adopt a
transition method at the time when a consistent fair value measurement and
recognition provision is determined by the FASB and is required to be adopted. Reclassifications Certain amounts in the 2002 consolidated financial statements and notes
have been reclassified to conform to the 2003 presentation. These
reclassifications had no effect on previously reported shareholders equity or
net income in the periods presented. New Pronouncements In July 2003, the AICPAs Accounting Standards Executive Committee
(AcSEC) issued SOP 03-1, Accounting and Reporting by Insurance Enterprises
for Certain Nontraditional Long-Duration Contracts and for Separate Accounts
(SOP 03-1), which contains guidance on a variety of issues involving
nontraditional long duration contracts. The Company will adopt SOP 03-1 in the
first quarter of 2004. The impact of adoption has not yet been determined. In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities (FIN 46), which requires the consolidation of
certain entities considered to be variable interest entities (VIEs). An
entity is considered to be a VIE when it has equity investors who lack the
characteristics of having a controlling financial interest, or its capital is
insufficient to permit it to finance its activities without additional
subordinated financial support. Consolidation of a VIE by an investor is
required when it is determined that the investor will absorb a majority of the
VIEs expected losses if they occur, receive a majority of the entitys
expected residual returns if they occur, or both. FIN 46 is effective for the
first quarter of 2004. The Company will adopt FIN 46 with an emphasis on its
trust preferred securities. The adoption is not expected to materially impact
financial position or results of operations. F-13




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) 2. Investments The amortized cost, gross unrealized gains and losses and estimated fair
value of securities available for sale are as follows (in thousands): December 31, 2003GrossAmortized
    
    Unrealized
    
    Gross
    
    FairCost
    
    Gains
    
    Unrealized Losses
    
    ValueSecurities available for sale:Fixed maturity securities:United States Treasury securities and
obligations of United States
government agencies
    
    $
    35,087
    
    
    $
    358
    
    
    $
    279
    
    
    $
    35,166Foreign government securities
    
    
    1,316
    
    
    
    
    
    
    
    
    
    
    
    1,316Utilities
    
    
    58,438
    
    
    
    1,180
    
    
    
    610
    
    
    
    59,008Corporate bonds
    
    
    716,299
    
    
    
    18,903
    
    
    
    11,546
    
    
    
    723,656Mortgage-backed securities
    
    
    823,908
    
    
    
    9,230
    
    
    
    10,604
    
    
    
    822,534Redeemable preferred stock
    
    
    3,000
    
    
    
    157
    
    
    
    
    
    
    
    3,157Total fixed maturity securities
    
    $
    1,638,048
    
    
    $
    29,828
    
    
    $
    23,039
    
    
    $
    1,644,837
 December 31, 2002GrossAmortized
    
    Unrealized
    
    Gross
    
    FairCost
    
    Gains
    
    Unrealized Losses
    
    ValueSecurities available for sale:Fixed maturity securities:United States Treasury securities and
obligations of United States
government agencies
    
    $
    5,365
    
    
    $
    440
    
    
    $
    
    
    
    $
    5,805Foreign government securities
    
    
    1,368
    
    
    
    
    
    
    
    3
    
    
    
    1,365Utilities
    
    
    54,016
    
    
    
    1,358
    
    
    
    2,504
    
    
    
    52,870Corporate bonds
    
    
    654,630
    
    
    
    27,351
    
    
    
    16,261
    
    
    
    665,720Mortgage-backed securities
    
    
    632,582
    
    
    
    19,451
    
    
    
    1,001
    
    
    
    651,032Redeemable preferred stock
    
    
    3,000
    
    
    
    
    
    
    
    
    
    
    
    3,000Total fixed maturity securities
    
    $
    1,350,961
    
    
    $
    48,600
    
    
    $
    19,769
    
    
    $
    1,379,792
 The estimated fair values for fixed maturity securities are based on
quoted market prices, where available. For fixed maturity securities not
actively traded, fair values are estimated using values obtained from
independent pricing services, or by discounting expected future cash flows
using a current market rate applicable to the coupon rate, credit rating, and
maturity of the investments. As of December 31, 2003, the fair value of securities in an unrealized
loss position greater than one year is $30 million with an unrealized loss of
$3.0 million. The fair value of securities in an unrealized loss position less
than one year is $708 million with an unrealized loss of $20.0 million. We
concluded that none of the above unrealized losses are other than temporary.
We believe the above fixed maturity unrealized losses are not other than
temporary because the Company has the ability and intent to hold the
investments for a period of time sufficient for a forecasted market price
recovery up to or beyond the cost of the investment. Also, in our opinion,
evidence indicating the cost of the investment is recoverable within a
reasonable period of time outweighs evidence to the contrary in considering the
severity and duration of the impairment in relation to the forecasted market
price recovery. F-14




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  2.
    
    Investments (continued) The amortized cost and estimated fair value of fixed maturity securities
at December 31, 2003, by contractual maturity are shown below (in thousands): Amortized
    
    FairCost
    
    ValueDue in one year
    
    $
    15,505
    
    
    $
    15,828Due after one year through five years
    
    
    126,346
    
    
    
    131,971Due after five years through ten years
    
    
    549,420
    
    
    
    551,668Due after ten years
    
    
    119,869
    
    
    
    119,679Subtotal
    
    
    811,140
    
    
    
    819,146Redeemable preferred stock
    
    
    3,000
    
    
    
    3,157Mortgage-backed securities
    
    
    823,908
    
    
    
    822,534Total fixed maturity securities
    
    $
    1,638,048
    
    
    $
    1,644,837
 Actual maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties and because most mortgage-backed securities provide for
periodic payments throughout their lives. Net investment income was attributable to the following for the year ended
December 31 (in thousands): 2003
    
    2002
    
    2001Fixed maturity securities
    
    $
    82,201
    
    
    $
    74,994
    
    
    $
    57,215Mortgage loans on real estate
    
    
    589
    
    
    
    743
    
    
    
    673Policy loans
    
    
    817
    
    
    
    814
    
    
    
    877Real estate
    
    
    30
    
    
    
    27
    
    
    
    30Short-term investments and other
    
    
    816
    
    
    
    398
    
    
    
    964Gross investment income
    
    
    84,453
    
    
    
    76,976
    
    
    
    59,759Less: investment expenses
    
    
    1,444
    
    
    
    1,137
    
    
    
    1,220Net investment income
    
    $
    83,009
    
    
    $
    75,839
    
    
    $
    58,539
 Net realized investment gains (losses) were attributable to the following
for the year ended December 31 (in thousands): 2003
    
    2002
    
    2001Fixed maturity securities available for sale:Gross realized gains
    
    $
    30,494
    
    
    $
    20,467
    
    
    $
    4,363Gross realized losses
    
    
    (8,232
    )
    
    
    (19,276
    )
    
    
    (9,175
    )Other-than-temporary decline in fair value
    
    
    (4,386
    )
    
    
    (20,027
    )
    
    
    (4,229
    )Net
    
    
    17,876
    
    
    
    (18,836
    )
    
    
    (9,041
    )Other losses
    
    
    
    
    
    
    (1,005
    )
    
    
    (1,310
    )Net realized investment gains (losses)
    
    $
    17,876
    
    
    $
    (19,841
    )
    
    $
    (10,351
    )
 F-15




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  2.
    
    Investments (continued) Life insurance companies are required to maintain certain amounts of
assets with state or other regulatory authorities. At December 31, 2003, fixed
maturity securities of $10.6 million and cash and short-term investments of $.5
million were held on deposit by various state regulatory authorities in
compliance with statutory regulations. Comprehensive income excludes reclassification adjustments for net realized
investment gains (losses) after income taxes (benefits) of $2.7 million,
($13.1) million, and ($6.8) million in 2003, 2002, and 2001, respectively. The
income tax rate used for comprehensive income is 34%.  3.
    
    Deferred Policy Acquisition Costs and Present Value of Future Profits  The activity related to deferred policy acquisition costs is summarized as
follows for the year ended December 31 (in thousands): 2003
    
    2002
    
    2001Balance, beginning of year
    
    $
    153,954
    
    
    $
    109,844
    
    
    $
    85,195Additions
    
    
    39,304
    
    
    
    62,618
    
    
    
    30,819Amortization
    
    
    (32,476
    )
    
    
    (9,097
    )
    
    
    (2,786
    )Adjustment relating to net unrealized (gain) loss on
securities available for sale
    
    
    5,629
    
    
    
    (9,411
    )
    
    
    (3,384
    )Balance, end of year
    
    $
    166,411
    
    
    $
    153,954
    
    
    $
    109,844
 The activity related to present value of future profits is summarized as
follows for the year ended December 31 (in thousands): 2003
    
    2002
    
    2001Balance, beginning of year
    
    $
    14,949
    
    
    $
    22,269
    
    
    $
    26,343Interest accreted on unamortized balance
    
    
    2,686
    
    
    
    2,902
    
    
    
    3,169Amortization
    
    
    (4,126
    )
    
    
    (4,700
    )
    
    
    (5,263
    )Adjustments relating to net unrealized (gain) loss on
securities available for sale
    
    
    2,999
    
    
    
    (5,522
    )
    
    
    (1,980
    )Balance, end of year
    
    $
    16,508
    
    
    $
    14,949
    
    
    $
    22,269
 The percentages of future expected net amortization of the beginning
balance of the present value of future profits, before the effect of net
unrealized gains and losses, are expected to be between 9% and 14% in each of
the years 2004 through 2008. Future net amortization is based on the present
value of future profits at December 31, 2003, and current assumptions as to
future events on all policies in force. The discount rate used to calculate the present value of future profits
reflected in our consolidated balance sheets at December 31, 2003, ranged from
8% to 18%. We recorded a charge of $7.9 million and $7.8 million for 2003 and 2002,
respectively, related to the acceleration of DAC amortization due to DAC
unlocking. F-16




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  4.
    
    Mortgage Payable, Notes Payable and Trust Preferred Securities Mortgage Payable, Notes Payable and Trust Preferred Securities were as
follows at December 31 (in thousands): InterestRate(1)
    
    2003
    
    2002Mortgage payable
    
    
    7.326
    %
    
    $
    6,795
    
    
    $
    6,757Notes payable:Promissory note
    
    
    3.00
    %
    
    $
    1,000
    
    
    $
    500Borrowings under revolving credit agreements
    
    
    4.91
    %
    
    
    
    
    
    
    1,500Senior subordinated note
    
    
    10.00
    %
    
    
    
    
    
    
    11,000Senior secured credit agreement
    
    
    5.92
    %
    
    
    20,000
    
    
    
    $
    21,000
    
    
    $
    13,000Trust preferred securities
    
    
    10.25
    %
    
    $
    20,700
    
    
    $
    20,700
 (1) Current weighted average rate at December 31, 2003 Mortgage Payable On May 1, 2003, we signed a promissory note due June 1, 2008, in the
principal amount of $.2 million. The note bears interest at 5.75% per annum
and is payable in equal monthly installments of $1,200. The note may be
repaid in whole or in part at our option. The note and all amounts due are
secured by a mortgage that conveys a first mortgage security interest in
certain real and personal property we own. On December 28, 2001, we signed a promissory note due December 31,
2011, in the principal amount of $6.9 million in order to finance the
purchase of our corporate headquarters. The note bears interest at 7.375%
per annum and is payable in equal monthly installments of $56,000. The note
may be prepaid in whole or in part at our option commencing on or before
January 1, 2005, at a redemption price equal to 105% of the principal amount
(plus accrued interest) and declining to 101% of the principal amount (plus
accrued interest) if prepayment is made after January 1, 2008. The note and
all amounts due are secured by a mortgage that conveys a first mortgage
security interest in certain real and personal property we own. Promissory Notes As of December 31, 2003, we have two promissory notes totaling $1
million related to the acquisitions of HomeDoc and HomeMed. Annual
principal payments are due in 2004 through 2008 in the amounts of $100,000,
$300,000, $300,000, $200,000 and $100,000, respectively. Borrowings under Senior Secured Credit Agreement We have $20.0 million of outstanding borrowings at December 31, 2003,
pursuant to the November 13, 2003 senior secured credit agreement of which
$10.0 million is in the form of a revolving credit and $10.0 million is in
the form of a term loan. Borrowings under the senior credit agreement were
primarily used for debt refinancing and for contributions to surplus of
insurance subsidiaries. The debt is secured under a Pledge Agreement by all
of the issued and outstanding shares of common stock of Standard Life.
Interest on the borrowings under the revolving credit is determined, at our
option, to be: 1) a fluctuating rate of interest equal to the corporate base
rate announced by the bank periodically, plus 1.15% per annum, or 2) a rate
equal to 90 Day London Inter-Bank Offered Rate (LIBOR) plus 3.95%.
Interest on the borrowings under the term loan is fixed at 6.63%.
Indebtedness incurred under the senior secured credit agreement is subject
to certain restrictions and covenants including, among other things, certain
minimum financial ratios, minimum risk based capital ratios and minimum
statutory surplus requirements for our insurance subsidiaries, and certain
limitations on acquisitions, additional indebtedness, investments, mergers,
consolidations and sales of assets. F-17




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  4.
    
    Mortgage Payable, Notes Payable and Trust Preferred Securities (continued) The senior secured credit agreement is due on November 13, 2008. The
revolving credit is a reducing facility that has a $2.5 million principal
payment due every quarter starting February 12, 2008 through final payment
on November 13, 2008. The term loan has a principal payment that starts on
May 13, 2004 and in quarterly payments due until November 13, 2008. The
quarterly payments range from $500,000 to $550,000 on an increasing scale
through the end of the term. Borrowings under Revolving Credit Agreements On October 23, 2003, we repaid the $3.75 million of outstanding
borrowings under our Amended and Restated Line of Credit Agreement with
Fleet National Bank. Senior Subordinated Note On November 14, 2003, we repaid the outstanding borrowings under our
senior subordinated note originally due October 31, 2007 with Zurich Capital
Markets. Trust Preferred Securities On August 9, 2001, SMAN Capital Trust I (the Trust), a wholly owned
subsidiary of Standard Management, completed a public offering of $20.7
million of its 10.25% preferred securities, which mature on August 9, 2031,
at $10 per preferred security. Distributions are classified as interest
expense. The preferred securities may be redeemed at any time on or after August
9, 2006, at a redemption price of $10 plus accumulated and unpaid
distributions. If the Trust redeems the preferred securities or is
liquidated and the debentures are not redeemed, debentures will be
distributed to the holders of the preferred securities rather than cash.
Standard Management guarantees the payments on these securities to the
extent that the Trust has available funds. The Trusts preferred securities are traded on the NASDAQ National
Market under the symbol SMANP. Interest Paid Cash paid for interest was $4.4 million, $4.0 million, and $3.3 million
in 2003, 2002, and 2001, respectively. F-18




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STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  5.
    
    Income Taxes The components of the federal income tax expense (benefit), applicable to
pre-tax income (loss) from continuing operations, were as follows for the year
ended December 31 (in thousands): 2003
    
    2002
    
    2001Current taxes
    
    $
    (3,161
    )
    
    $
    3,550
    
    
    $
    892Deferred taxes (benefit)
    
    
    2,534
    
    
    
    (13,017
    )
    
    
    (697
    )Federal income tax expense (benefit)
    
    $
    (627
    )
    
    $
    (9,467
    )
    
    $
    195
 The effective tax rate on pre-tax income (loss) from continuing operations
differs from the statutory corporate federal income tax rate as follows for the
year ended December 31 (in thousands): 2003
    
    2002
    
    2001Federal income tax expense (benefit) at statutory rate (34%)
    
    $
    (3,773
    )
    
    $
    (5,890
    )
    
    $
    793Operating income in our consolidated return offset by NOL
carryforwards
    
    
    
    
    
    
    (2,654
    )
    
    
    (447
    )Valuation allowance
    
    
    3,030
    
    
    
    
    
    
    
    Other items, net
    
    
    (116
    )
    
    
    (923
    )
    
    
    (151
    )Federal income tax expense (benefit)
    
    $
    (627
    )
    
    $
    (9,467
    )
    
    $
    195Effective tax rate
    
    
    6
    %
    
    
    55
    %
    
    
    48
    %
 We recovered $0, $.1 million, and $0 in federal income taxes in 2003, 2002
and 2001, respectively. We paid federal income taxes of $5.9 million, $1.2
million, and $.2 million in 2003, 2002 and 2001, respectively. Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for tax return purposes. Significant temporary
differences included in our deferred tax assets (liabilities) are as follows at
December 31 (in thousands): 2003
    
    2002Deferred income tax assets:Future policy benefits
    
    $
    59,310
    
    
    $
    47,127Capital and net operating loss carryforwards
    
    
    3,211
    
    
    
    1,255Other, net
    
    
    727
    
    
    
    Gross deferred tax assets
    
    
    63,248
    
    
    
    48,382Valuation allowance for deferred tax assets
    
    
    3,030
    
    
    
    Deferred income tax assets, net of valuation allowance
    
    
    60,218
    
    
    
    48,382Deferred income tax liabilities:Present value of future profits
    
    
    (5,613
    )
    
    
    (5,083
    )Deferred policy acquisition costs
    
    
    (49,111
    )
    
    
    (46,013
    )Unrealized gain on securities available for sale
    
    
    (9,110
    )
    
    
    (3,138
    )Other, net
    
    
    
    
    
    
    (580
    )Total deferred income tax liabilities
    
    
    (63,834
    )
    
    
    (54,814
    )Net deferred income tax liabilities
    
    $
    (3,616
    )
    
    $
    (6,432
    )
 As of December 31, 2003, Standard Management and its subsidiaries had
consolidated net capital loss carryforwards of approximately $.5 million for
tax return purposes, which expire in 2007. A $3.0 million valuation allowance has been provided on certain
operating loss carryforwards in the Health Services segment at December 31,
2003. F-19




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  6.
    
    Shareholders Equity Treasury Stock We did not purchase any shares of treasury stock in 2003 and 2001 under
our stock repurchase program. However in 2002, we purchased 22,100 shares of
treasury stock for $82,000 in 2002 under our stock repurchase program. At
December 31, 2003, we were authorized to purchase an additional 702,690 shares
under this program. Warrants The following table represents outstanding warrants to purchase common
stock as of December 31, 2003: Exercise
    
    WarrantsIssue Date
    
    Expiration Date
    
    Price
    
    OutstandingJanuary 2001
    
    January 2004
    
    $
    3.00
    
    
    
    157,750January 2002
    
    January 2005
    
    
    6.02
    
    
    
    287,000June 2002
    
    June 2005
    
    
    7.61
    
    
    
    89,500October 2002
    
    October 2007
    
    
    4.92
    
    
    
    10,000544,250
 Changes in Shares of Common Stock and Treasury Stock The following table represents changes in the number of common and
treasury shares as of December 31: 2003
    
    2002
    
    2001Common Stock (Authorized - 20,000,000 shares):Balance, beginning of year
    
    
    9,369,752
    
    
    
    9,039,471
    
    
    
    9,038,134Issuance of common stock
    
    
    259,415
    
    
    
    330,281
    
    
    
    1,337Balance, end of year
    
    
    9,629,167
    
    
    
    9,369,752
    
    
    
    9,039,471Treasury Stock:Balance, beginning of year
    
    
    (1,515,078
    )
    
    
    (1,492,978
    )
    
    
    (1,492,978
    )Treasury stock acquired
    
    
    
    
    
    
    (22,100
    )
    
    
    Balance, end of year
    
    
    (1,515,078
    )
    
    
    (1,515,078
    )
    
    
    (1,492,978
    )
 Unrealized Gain on Securities The components of unrealized gain on securities available for sale in
shareholders equity are summarized as follows at December 31 (in thousands): 2003
    
    2002Fair value of securities available for sale
    
    $
    1,644,837
    
    
    $
    1,379,792Amortized cost of securities available for sale
    
    
    1,638,048
    
    
    
    1,350,961Unrealized gain on securities available for sale
    
    
    6,789
    
    
    
    28,831Adjustments for:Deferred policy acquisition costs
    
    
    (1,114
    )
    
    
    (6,942
    )Present value of future profits
    
    
    (1,313
    )
    
    
    (4,113
    )Deferred federal income taxes (benefits)
    
    
    (1,512
    )
    
    
    (6,075
    )Other
    
    
    (148
    )
    
    
    38Net unrealized gain on securities available for sale
    
    $
    2,702
    
    
    $
    11,739
 F-20




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  7.
    
    Stock Option Plan Effective June 12, 2002, we adopted our 2002 Stock Incentive Plan which
authorizes the granting of options to employees, directors and consultants of
the Company to purchase up to 990,000 shares of our common stock at a price not
less than its market value on the date the option is granted. The number of
shares of stock available for issuance pursuant to the Plan is automatically
increased on the first trading day of each calendar year beginning January 1,
2003, by an amount equal to 3% of the shares of stock outstanding on the
trading day immediately preceding January 1. As of January 1, 2004, there were
645,143 shares of our common stock available for grant under the 2002 Stock
Incentive Plan. Options may not be granted under the 2002 Stock Incentive Plan
on a date that is more than ten years from the date of its adoption. The
options may become exercisable immediately or over a period of time. Any shares
subject to an option that for any reason expires or is terminated unexercised
may again be subject to an option under the Plan. The 2002 Stock Incentive
Plan also permits granting of stock appreciation rights and restricted stock
awards. The provisions of SFAS No. 123, as amended, allows companies to either
expense the estimated fair value of stock options or to continue their current
practice and disclose the pro forma effects on net income and earnings per
share had the fair value of the options been expensed. We have elected to
continue our practice of recognizing compensation expense for our Plan using
the intrinsic value based method of accounting and to provide the required pro
forma information. Plan compensation cost based on fair value at the grant
date, which is consistent with the provisions of SFAS No. 123, would result in
pro forma net income (loss) and pro forma earnings (loss) per share of the
following for the year ended December 31 (in thousands, except per share
amounts): 2003
    
    2002
    
    2001Net income (loss)
    
    $
    (10,803
    )
    
    $
    (1,271
    )
    
    $
    877Earnings (loss) per share
    
    
    (1.34
    )
    
    
    (.17
    )
    
    
    .07Earnings (loss) per share, assuming dilution
    
    
    (1.33
    )
    
    
    (.16
    )
    
    
    .07
  The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-valuation model
with the following weighted-average assumptions: 2003
    
    2002
    
    2001Risk-free interest rates
    
    
    3.1
    %
    
    
    3.6
    %
    
    
    3.6
    %Volatility factors
    
    
    .52
    
    
    
    .62
    
    
    
    .62Weighted average expected life
    
    6 years
    
    7 years
    
    7 years
 The Black-Scholes option-valuation model was developed for use in
estimating the fair value of traded options that have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Our employee stock options have characteristics significantly
different from those of traded options, and changes in subjective assumptions
can materially affect the fair value estimate, therefore in managements
opinion, the existing models do not provide a reliable single measure of the
fair value of its employee stock options. F-21




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  7.
    
    Stock Option Plan (continued) A summary of our stock option activity and related information for the
years ended December 31 is as follows: 2003
    
    2002
    
    2001Weighted-
    
    
    
    
    
    Weighted
    
    
    
    
    
    Weighted-Average
    
    
    
    
    
    Average
    
    
    
    
    
    AverageExercise
    
    
    
    
    
    Exercise
    
    
    
    
    
    ExerciseShares
    
    Price
    
    Shares
    
    Price
    
    Shares
    
    PriceOptions outstanding, beginning
of year
    
    
    2,409,869
    
    
    $
    6.00
    
    
    
    2,461,933
    
    
    $
    6.03
    
    
    
    2,398,258
    
    
    $
    6.09Exercised
    
    
    (6,225
    )
    
    
    3.36
    
    
    
    (106,385
    )
    
    
    5.81
    
    
    
    (1,575
    )
    
    
    4.55Granted
    
    
    580,000
    
    
    
    3.97
    
    
    
    65,000
    
    
    
    4.25
    
    
    
    84,300
    
    
    
    4.07Expired or forfeited
    
    
    (179,590
    )
    
    
    5.56
    
    
    
    (10,679
    )
    
    
    4.11
    
    
    
    (19,050
    )
    
    
    6.03Options outstanding, end of year
    
    
    2,804,054
    
    
    
    5.58
    
    
    
    2,409,869
    
    
    
    6.00
    
    
    
    2,461,933
    
    
    
    6.03Options exercisable, end of year
    
    
    2,450,722
    
    
    
    
    
    
    
    2,351,436
    
    
    
    
    
    
    
    2,406,733Weighted-average fair value of
options
granted during the year
    
    $
    1.39
    
    
    
    
    
    
    $
    2.71
    
    
    
    
    
    
    $
    2.71
 Information with respect to stock options outstanding at December 31,
2003, is as follows: Options Outstanding
    
    Options ExercisableWeighted-Average
    
    Weighted-
    
    
    
    
    
    Weighted-Range of
    
    
    
    
    
    Remaining
    
    Average
    
    
    
    
    
    AverageExercise
    
    Number
    
    Contractual
    
    Exercise
    
    Number
    
    ExercisePrices
    
    Outstanding
    
    Life (years)
    
    Price
    
    Exercisable
    
    Price$3-5
    
    
    998,324
    
    
    
    6
    
    
    $
    3.78
    
    
    
    678,325
    
    
    $
    4.065-7
    
    
    1,287,500
    
    
    
    4
    
    
    
    6.15
    
    
    
    1,287,500
    
    
    
    6.157-9
    
    
    518,230
    
    
    
    4
    
    
    
    7.32
    
    
    
    484,897
    
    
    
    7.302,804,054
    
    
    
    
    
    
    
    
    
    
    
    2,450,722
  8.
    
    Reinsurance Standard Life and Dixie Life have entered into reinsurance agreements with
non-affiliated companies to limit the net loss arising from large risks,
maintain their exposure to loss within capital resources, and provide
additional capacity for future growth. The maximum amount of life insurance
face amount retained on any one life ranges from $30,000 to $150,000. Amounts
of standard risk in excess of that limit are reinsured. Reinsurance premiums ceded to other insurers were $4.0 million, $3.0
million, and $4.4 million in 2003, 2002 and 2001, respectively. Reinsurance
ceded has reduced benefits and claims incurred by $3.5 million, $5.2 million,
and $5.9 million in 2003, 2002 and 2001, respectively. A contingent liability
exists to the extent any of the reinsuring companies are unable to meet their
obligations under the reinsurance agreements. To minimize exposure to
significant losses from reinsurance insolvencies, we evaluate the financial
condition of our reinsurers and monitor concentrations of credit risk arising
from similar geographic regions, activities or economic characteristics of the
reinsurers. Based on our periodic reviews of these companies, we believe the
assuming companies are able to honor all contractual commitments under the
reinsurance agreements. At December 31, 2003, SCOR Life U.S. Insurance Company, our largest
annuity reinsurer, which is rated B++ (Very Good) by A.M. Best, represented $18.2 million, or 50% of our total reinsurance recoverable. F-22




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  9.
    
    Goodwill and Intangible Assets The activity related to goodwill is summarized as follows for December 31
(in thousands): 2003
    
    2002Balance, beginning of year
    
    $
    6,417
    
    
    $
    5,146Goodwill acquired
    
    
    3,544
    
    
    
    2,483Goodwill impairment
    
    
    
    
    
    
    (1,212
    )Balance, end of year
    
    $
    9,961
    
    
    $
    6,417
 The intangible asset balance was $1.0 million and $0 in 2003 and 2002,
respectively. The intangible asset balance relates to assets related to
customer lists and technology acquired by U.S. Health Services. Intangible
amortization expense was $140,000 and $0 in 2003 and 2002, respectively. Our operating segments had the following goodwill balances at December 31
(in thousands): 2003
    
    2002Financial Services
    
    $
    3,674
    
    
    $
    3,674Health Services
    
    
    6,028
    
    
    
    2,484Other Services
    
    
    259
    
    
    
    259$
    9,961
    
    
    $
    6,417
 For the twelve months ended December 31, 2001, on a SFAS No. 142
comparable basis, our net income, basic net income per share and diluted net
income per share would have been $2.0 million, $.26 and $.26, which includes
the elimination of amortization of $.2 million or $.03 per share.  10.
    
    Related Party Transactions In 1997, we made an interest-free loan to one of our officers. The
principal balance of the loan was $775,500 at December 31, 2003 and 2002,
respectively. Repayment is due within 10 days of voluntary termination or
resignation as an officer. In the event of a termination of the officers
employment following a change in control, the loan is deemed to be forgiven.  11.
    
    Commitments and Contingencies Lease Commitments We rent office and storage space under noncancellable operating leases and
we incurred rent expense for operating leases of $.7 million, $.5 million, and
$.8 million in 2003, 2002 and 2001, respectively. Future required minimum rental payments, by year and in the aggregate,
under operating leases as of December 31, 2003, are as follows (in thousands): 2004
    
    $
    4452005
    
    
    3552006
    
    
    3552007
    
    
    1982008
    
    
    40Total minimum lease payments
    
    $
    1,393
 F-23




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  11.
    
    Commitments and Contingencies (continued) Employment Agreements Certain officers are employed pursuant to executive employment agreements
that create certain liabilities in the event of the termination of the covered
executives following a change in control of Standard Management. The commitment
under these agreements is approximately three times their current annual
salaries. Additionally, following termination due to a change in control, each
executive is entitled to receive a lump sum payment equal to all unexercised
stock options granted multiplied by the highest per share fair market value
during the six month period ending on the date of termination. There were
unexercised options outstanding to these executives to buy 1,370,855 shares at
December 31, 2003.  12.
    
    Litigation We are involved in various legal proceedings in the normal course of
business. In most cases, such proceedings involve claims under insurance
policies or other contracts of Standard Management. The outcomes of these legal
proceedings are not expected to have a material adverse effect on the
consolidated financial position, liquidity or future results of operations of
Standard Management based on our current understanding of the relevant facts
and law.  13.
    
    Statutory Accounting Information of Subsidiaries Our insurance subsidiaries maintain their records in conformity with
statutory accounting practices prescribed or permitted by state insurance
regulatory authorities. Statutory accounting practices differ in certain
respects from GAAP. In consolidation, adjustments have been made to conform to
our domestic subsidiaries accounts to GAAP. Our life insurance subsidiaries had consolidated statutory capital and
surplus of $62.8 million and $58.9 million at December 31, 2003 and 2002,
respectively. Income excluding realized capital gains and losses of our
insurance subsidiaries on a statutory basis is $10.4 million, $4.1 million, and
$4.2 million for the years ended December 31, 2003, 2002 and 2001,
respectively. Net income (loss) of our insurance subsidiaries on a statutory
basis is $11.3 million, ($8.4) million, and $.1 million for the years ended
December 31, 2003, 2002 and 2001, respectively. State insurance regulatory authorities impose minimum risk-based capital
requirements on insurance enterprises that were developed by the National
Association of Insurance Commissioners (NAIC). The formulas for determining
the amount of risk-based capital (RBC) specify various weighting factors that
are applied to financial balances or various levels of activity based on the
perceived degree of investment and insurance risks. Regulatory compliance is
determined by a ratio (the Ratio) of the enterprises regulatory total
adjusted capital, as defined by the NAIC, to its authorized control level RBC,
as defined by the NAIC. Enterprises below specific trigger points or ratios
are classified within certain levels, each of which requires specified
corrective action. At December 31, 2003, the RBC Ratios of Standard Life and
Dixie Life were both at least one and a half times greater than the levels at
which company action is required. We loaned $27.0 million to Standard Life pursuant to an Unsecured Surplus
Debenture Agreement (Surplus Debenture) which requires Standard Life to make
quarterly interest payments at a variable corporate base rate plus 2% per
annum, and annual principal payments of $1.0 million per year beginning in 2007
and concluding in 2033. As required by state regulatory authorities, the
balance of the surplus debenture at December 31, 2003 and 2002 of $27.0 million
is classified as a part of capital and surplus of Standard Life. The interest
and principal payments are subject to quarterly approval by the Indiana
Department of Insurance depending upon satisfaction of certain financial tests
relating to the levels of Standard Lifes capital and surplus and general
approval of the Commissioner of the Indiana Department of Insurance. Our ability to pay operating expenses and meet debt service obligations is
partially dependent upon the amount of dividends received from Standard Life.
Standard Lifes ability to pay cash dividends is, in turn, restricted by law or
subject to approval by the insurance regulatory authorities of Indiana.
Dividends are permitted based on, among other things, the level of the
preceding year statutory surplus and net income. Standard Life did not pay any
dividends in 2003 and 2002. Standard Life paid $1.6 million of dividends in
2001. During 2004, Standard Life can pay dividends of $1.9 million, without
regulatory approval and an additional $8.5 million with regulatory approval. F-24




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  14.
    
    Operations by Business Segment Our reportable segments are as follows: Financial Services Our Financial Services segment consists of revenues earned and expenses
incurred from our insurance operations, particularly Standard Life and Dixie
Life. Our primary insurance products include deferred annuities, single
premium immediate annuities and equity-indexed annuities. The profitability of
this segment is primarily a function of net investment spread (the difference
between the investment income earned on our investments less the interest we
credit to our policyholders), persistency of our in force business, mortality
experience and management of our operating expenses. Health Services Our Health Services segment, which was formed in 2002, and is conducted
through U.S. Health Services, develops and distributes retail and third party
reimbursed pharmaceutical products and services through direct-to-consumer as
well as institutional channels. Our primary customer base consists of
consumers, academic institutions, skilled nursing facilities, assisted living
facilities, home health care agencies and mental health facilities. In
addition, U.S. Health Services acts as a wholesale distributor/repackager and a
pharmacy management solution to various sectors of the veterinary care
industry. The profitability of this segment is primarily a function of gross
margin on sales (the difference between sales and cost of sales) and management
of our operating expenses. Other Services Our Other Services segment consists of revenues and expenses primarily
related to corporate operations and financing costs. Discontinued Operations - International Operations Effective September 17, 2002 we concluded the sale of our International
Operations (discontinued operations). The accounting policies of the segments are the same as described in Note
1 (Summary of Significant Accounting Policies). The following segment
presentation contains the same operating data and results the Company uses to
evaluate the performance of the business and provides reconciliations to
consolidated totals for the year ended December 31 (in thousands): 2003
    
    2002
    
    2001Revenues:Financial Services
    
    $
    132,992
    
    
    $
    65,150
    
    
    $
    62,031Health Services
    
    
    2,948
    
    
    
    1,850
    
    
    
    Other Services
    
    
    633
    
    
    
    1,224
    
    
    
    4,739Consolidated revenues
    
    $
    136,573
    
    
    $
    68,224
    
    
    $
    66,770Net Investment Income (loss):Financial Services
    
    $
    82,904
    
    
    $
    75,823
    
    
    $
    58,577Other Services
    
    
    105
    
    
    
    16
    
    
    
    (38
    )Consolidated investment income
    
    $
    83,009
    
    
    $
    75,839
    
    
    $
    58,539Income (loss) from continuing operations:Financial Services
    
    $
    (187
    )
    
    $
    (5,317
    )
    
    $
    632Health Services
    
    
    (7,161
    )
    
    
    (1,156
    )
    
    
    Other Services
    
    
    (2,848
    )
    
    
    (1,385
    )
    
    
    (418
    )Consolidated
income (loss) from continuing operations
    
    $
    (10,196
    )
    
    $
    (7,858
    )
    
    $
    214
 F-25




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  14.
    
    Operations by Business Segment (continued) 2003
    
    2002
    
    2001Assets:Financial Services
    
    $
    1,960,793
    
    
    $
    1,698,666
    
    
    $
    1,166,665Health Services
    
    
    9,942
    
    
    
    4,307
    
    
    
    Other Services
    
    
    3,136
    
    
    
    12,173
    
    
    
    16,658Discontinued Operations
    
    
    
    
    
    
    
    
    
    
    430,330Consolidated assets
    
    $
    1,973,871
    
    
    $
    1,715,147
    
    
    $
    1,613,653
 Revenues by product have not been disclosed because it is impracticable for us
to provide this information. Although premiums and deposits collected by
product are available on a statutory basis, it is impracticable to disclose
revenues by product on a GAAP basis because we do not allocate certain
components of revenues such as net investment income, net realized investment
gains (losses) and fee and other income to our products.  15.
    
    Derivative Financial Instruments We offer equity-indexed annuity products that provide a base rate of
return with a higher potential return linked to the performance of a
broad-based equity index. We buy S&P 500 Index options and DJIA Index options
(collectively known as the options) in an effort to hedge potential increases
to policyholder benefits resulting from increases in the S&P 500 Index and DJIA
Index to which the products returns are linked. The cost of the options is
included in the pricing of the equity-indexed annuity products. The changes in
the value of the options are reflected in net investment income and fluctuate
in relation to changes in interest credited to policyholder account balances
for these annuities. Total revenues include $11.9 million, ($10.1) million, and ($5.9) million
in 2003, 2002 and 2001, respectively, related to changes in the fair value of
the options. These investment gains (losses) were substantially offset by
amounts credited to policyholder account balances. The fair value of the
options was $19.7 million and $3.9 million at December 31, 2003 and 2002,
respectively. The notional amounts were $247.7 million and $227.3 million at
December 31, 2003 and 2002, respectively. If the counterparties of the aforementioned financial instruments do not
meet their obligations, we may have to recognize a loss. We limit our exposure
to losses by diversifying among several counterparties believed to be strong
and creditworthy. At December 31, 2003, all of the counterparties were rated
A or higher by Standard & Poors.  16.
    
    Fair Value of Financial Instruments The following discussion outlines the methods and assumptions we use in
estimating our fair value disclosures for our financial instrument assets and
liabilities. Because fair values for all balance sheet items are not required
to be disclosed pursuant to SFAS No. 107, Disclosures about Fair Values of
Financial Instruments, the aggregate fair value amounts presented herein do
not necessarily represent our underlying value, likewise, care should be
exercised in deriving conclusions about our business or financial condition
based on this fair value information. Fixed maturity securities:Fair values for fixed maturity securities are based
on quoted market prices from broker-dealers, where available. For fixed
maturity securities not actively traded, fair values are estimated using values
obtained from independent pricing services, or, in the case of private
placements, are estimated by discounting the expected future cash flows using
current market rates applicable to the coupon rate, credit rating and maturity
of the investments. Derivative securities:The fair values for derivative securities are based on
internal methods developed by our investment advisor. Mortgage loans and policy loans:The estimated fair values for mortgage loans
and policy loans are estimated using discounted cash flow analyses and interest
rates currently being offered for similar loans to borrowers with similar
credit ratings. Insurance liabilities for investment contracts:Fair values for our
investment-type insurance contract liabilities are estimated using discounted
cash flow calculations, based on interest rates currently being offered for
similar contracts with maturities consistent with those remaining contracts
being valued. The estimated fair value of the liabilities for investment
contracts was approximately equal to its carrying value at December 31, 2003
and 2002. This is due to 1) credited rates on the vast majority of account
balances approximating current rates paid on similar investments and 2) rates
not generally being guaranteed beyond one year. F-26




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STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  16.
    
    Fair Value of Financial Instruments (continued) Insurance liabilities for non-investment contracts:Fair value disclosures for
our reserves for insurance contracts other than investment-type contracts are
not required and have not been determined. However, we closely monitor the
level of our insurance liabilities and that the fair value of reserves under
all insurance contracts is taken into consideration in the overall management
of interest rate risk. Mortgage payable, notes payable and trust preferred securities:The estimated
fair values for mortgage payable, notes payable and trust preferred securities
are estimated using discounted cash flow analyses and interest rates currently
being offered for similar loans to borrowers with similar credit ratings at
December 31, 2003. We believe the fair value of our mortgage payable, notes
payable and trust preferred securities was equal to its carrying value at
December 31, 2003, since the interest rates reflect current market conditions. The carrying amount of all other financial instruments approximates their
fair values. The fair value of our financial instruments is shown below using a
summarized version of assets and liabilities at December 31 (in thousands).
Refer to Note 2 for additional information relating to the fair value of
investments. 2003
    
    2002Fair
    
    Carrying
    
    Fair
    
    CarryingValue
    
    Amount
    
    Value
    
    AmountAssets:Investments:Securities available for sale:Fixed maturity securities
    
    $
    1,644,837
    
    
    $
    1,644,837
    
    
    $
    1,379,792
    
    
    $
    1,379,792Mortgage loans on real estate
    
    
    4,735
    
    
    
    3,937
    
    
    
    7,117
    
    
    
    6,348Policy loans
    
    
    13,668
    
    
    
    12,308
    
    
    
    13,162
    
    
    
    12,722Cash and cash equivalents
    
    
    17,296
    
    
    
    17,296
    
    
    
    60,197
    
    
    
    60,197Liabilities:Insurance liabilities for investment contracts
    
    
    1,685,289
    
    
    
    1,685,289
    
    
    
    1,422,628
    
    
    
    1,422,628Mortgage payable
    
    
    6,994
    
    
    
    6,589
    
    
    
    6,949
    
    
    
    6,757Notes payable
    
    
    19,403
    
    
    
    20,000
    
    
    
    13,300
    
    
    
    13,000Trust preferred securities
    
    
    19,520
    
    
    
    20,700
    
    
    
    17,616
    
    
    
    20,700
 17. Earnings Per Share A reconciliation of income and shares used to calculate basic and diluted
earnings per share is as follows (dollars in thousands): 2003
    
    2002
    
    2001Income:Net income (loss)
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,781Preferred stock dividends
    
    
    
    
    
    
    
    
    
    
    (318
    )Earnings available to common shareholders for basic and
diluted earnings per share
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,463Shares:Weighted average shares outstanding for basic earnings per share
    
    
    8,031,749
    
    
    
    7,623,690
    
    
    
    7,545,889Effect of dilutive securities:Stock options
    
    
    68,593
    
    
    
    149,254
    
    
    
    81,221Stock warrants
    
    
    35,473
    
    
    
    165,610
    
    
    
    138,268Dilutive potential common shares
    
    
    104,066
    
    
    
    314,864
    
    
    
    219,489Weighted average shares outstanding for diluted earnings per share
    
    
    8,135,815
    
    
    
    7,938,554
    
    
    
    7,765,378
 F-27




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  18.
    
    Quarterly Financial Data (unaudited) (in thousands, except per share
amounts) Earnings per common and common equivalent share for each quarter are
computed independently of earnings per share for the year. Due to the
transactions affecting the weighted average number of shares outstanding in
each quarter and due to the uneven distribution of earnings during the year,
the sum of the quarterly earnings per share may not equal the earnings per
share for the year. 2003 QuartersFirst
    
    Second
    
    Third
    
    FourthTotal revenues
    
    $
    32,434
    
    
    $
    40,388
    
    
    $
    25,679
    
    
    $
    34,147Components of net income (loss):Loss from continuing operations
    
    $
    (677
    )
    
    $
    (1,944
    )
    
    $
    (2,863
    )
    
    $
    (10,185
    )Loss from discontinued operations
    
    
    
    
    
    
    
    
    
    
    (275
    )
    
    
    Net realized investment gains (losses)
    
    
    2,687
    
    
    
    2,976
    
    
    
    (73
    )
    
    
    (116
    )Net income (loss)
    
    $
    2,010
    
    
    $
    1,032
    
    
    $
    (3,211
    )
    
    $
    (10,302
    )Net income (loss) per common share
    
    $
    .26
    
    
    $
    .13
    
    
    $
    (.40
    )
    
    $
    (1.29
    )Net income (loss) per common share, assuming
dilution
    
    $
    .25
    
    
    $
    .13
    
    
    $
    (.39
    )
    
    $
    (1.26
    )
 2002 QuartersFirst
    
    Second
    
    Third
    
    FourthTotal revenues
    
    $
    22,985
    
    
    $
    10,114
    
    
    $
    17,327
    
    
    $
    19,695Components of net income (loss):Income (loss) from continuing operations
    
    $
    1,672
    
    
    $
    1,829
    
    
    $
    (5,103
    )
    
    $
    669Income from discontinued operations
    
    
    513
    
    
    
    4,765
    
    
    
    2,662
    
    
    
    Cumulative effect of accounting change for
goodwill impairment
    
    
    (1,212
    )
    
    
    
    
    
    
    
    
    
    
    Net realized investment gains (losses)
    
    
    (181
    )
    
    
    (5,692
    )
    
    
    (1,734
    )
    
    
    682Net income (loss)
    
    $
    792
    
    
    $
    902
    
    
    $
    (4,175
    )
    
    $
    1,351Net income (loss) per common share
    
    $
    .11
    
    
    $
    .12
    
    
    $
    (.57
    )
    
    $
    .19Net income (loss) per common share, assuming
dilution
    
    $
    .10
    
    
    $
    .11
    
    
    $
    (.53
    )
    
    $
    .18
 Reporting the results of insurance operations on a quarterly basis
requires the use of numerous estimates throughout the year, primarily in the
computation of reserves, amortization of deferred policy acquisition costs and
present value of future profits, and the effective rate for income taxes. It
is our practice to review estimates at the end of each quarter and, if
necessary, make appropriate adjustments, with the effect of such adjustments
being reported in current operations. Only at year-end are we able to assess
the accuracy of our previous quarterly estimates. Our fourth quarter results
include the effect of the difference between previous estimates and actual
year-end results. Therefore, the results of an interim period may not be
indicative of the results of the entire year. F-28




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##### Table of Contents



STANDARD MANAGEMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)  19.
    
    Subsequent Events (unaudited) Effective February 6, 2004, our wholly owned subsidiary, Apothecary
Solutions Corporation, acquired certain assets of Alliance Center, Inc.
Apothecary Solutions is an institutional pharmacy. The purchase price was $3.7
million, and additional contingent consideration of up to $175,000 may be paid,
based on a percentage of outstanding accounts receivable collected. The
purchase was accounted for under the purchase method of accounting and resulted
in recognizing a preliminary goodwill amount of $1.2 million. Under purchase
accounting, we allocated the total purchase price of the assets and liabilities
acquired, based on a determination of the fair values and recorded the excess
of acquisition cost over net assets acquired as goodwill. On February 25, 2004, we issued $3.3 million of convertible notes due on
July 1, 2009. The notes are convertible into Standard Management common stock at
$7.00 per share. The notes bear interest at 7.00% payable semi-annually. F-29




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##### Table of Contents



Schedule II  Condensed Financial Information of Registrant STANDARD MANAGEMENT CORPORATION
(PARENT COMPANY) CONDENSED BALANCE SHEETS
(Dollars in Thousands) December 312003
    
    2002ASSETSInvestments:Investment in subsidiaries
    
    $
    110,452
    
    
    $
    111,033Surplus debenture due from Standard Life
    
    
    27,000
    
    
    
    27,000Equity securities available for sale, at fair value (cost: $25 in 2003 and $32 in 2002)
    
    
    25
    
    
    
    32Real estate
    
    
    313
    
    
    
    90Notes receivable from officers and directors
    
    
    776
    
    
    
    776Total investments
    
    
    138,566
    
    
    
    138,931Cash and cash equivalents
    
    
    263
    
    
    
    1,608Property and equipment, less depreciation of $4,516 in 2003 and $3,271 in 2002
    
    
    10,560
    
    
    
    11,282Amounts receivable from subsidiaries
    
    
    12,673
    
    
    
    5,154Other assets
    
    
    (374
    )
    
    
    3,645Total assets
    
    $
    161,688
    
    
    $
    160,620LIABILITIES AND SHAREHOLDERS EQUITYLiabilities:Notes payable
    
    $
    20,500
    
    
    $
    12,500Capital lease obligations
    
    
    447
    
    
    
    804Mortgage payable
    
    
    6,795
    
    
    
    6,757Amounts due to subsidiaries
    
    
    38,148
    
    
    
    30,748Other liabilities
    
    
    2,651
    
    
    
    1,377Total liabilities
    
    
    68,541
    
    
    
    52,186Company-obligated trust preferred securities
    
    
    20,700
    
    
    
    20,700Shareholders Equity:Common stock and additional paid-in capital, no par value
    
    
    68,077
    
    
    
    63,857Treasury stock, at cost
    
    
    (7,671
    )
    
    
    (7,671
    )Accumulated other comprehensive loss:Unrealized gain on securities
    
    
    2,702
    
    
    
    11,739Retained earnings
    
    
    9,339
    
    
    
    19,809Total shareholders equity
    
    
    72,447
    
    
    
    87,734Total liabilities and shareholders equity
    
    $
    161,688
    
    
    $
    160,620
 See accompanying notes to condensed financial statements F-30




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##### Table of Contents



Schedule II  Condensed Financial Information of Registrant  (continued) STANDARD MANAGEMENT CORPORATION
(PARENT COMPANY) CONDENSED STATEMENTS OF INCOME
(Dollars in Thousands) Year Ended December 312003
    
    2002
    
    2001Revenues:Management fees from subsidiaries
    
    $
    3,600
    
    
    $
    3,500
    
    
    $
    4,750Interest income from subsidiaries
    
    
    1,675
    
    
    
    1,915
    
    
    
    2,615Rental income from subsidiaries
    
    
    1,901
    
    
    
    1,854
    
    
    
    1,100Other income
    
    
    94
    
    
    
    15
    
    
    
    40Net realized investment gains (losses)
    
    
    63
    
    
    
    (1,001
    )
    
    
    (1,310
    )Total revenues
    
    
    7,333
    
    
    
    6,283
    
    
    
    7,195Expenses:Operating expenses
    
    
    5,452
    
    
    
    5,548
    
    
    
    4,332Interest expense and financing costs
    
    
    5,590
    
    
    
    4,767
    
    
    
    3,519Interest expense on note payable to affiliate
    
    
    
    
    
    
    50
    
    
    
    125Total expenses
    
    
    11,042
    
    
    
    10,365
    
    
    
    7,976Loss before federal income taxes, equity in
earnings of consolidated subsidiaries, and
preferred stock dividends
    
    
    (3,709
    )
    
    
    (4,082
    )
    
    
    (781
    )Federal income tax benefit
    
    
    (318
    )
    
    
    (2,353
    )
    
    
    (34
    )Loss before equity in earnings of consolidated
subsidiaries, and preferred stock dividends
    
    
    (3,391
    )
    
    
    (1,729
    )
    
    
    (747
    )Equity in earnings of consolidated subsidiaries
    
    
    (7,080
    )
    
    
    599
    
    
    
    2,527Income (loss) before preferred stock dividends
    
    
    (10,471
    )
    
    
    (1,130
    )
    
    
    1,781Net income (loss)
    
    
    (10,471
    )
    
    
    (1,130
    )
    
    
    1,781Preferred stock dividends
    
    
    
    
    
    
    
    
    
    
    (318
    )Earnings available to common shareholders
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,463
 See accompanying notes to condensed financial statements F-31




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Schedule II  Condensed Financial Information of Registrant  (continued) STANDARD MANAGEMENT CORPORATION
(PARENT COMPANY) CONDENSED STATEMENTS OF CASH FLOWS
(Dollars in Thousands) Year Ended December 312003
    
    2002
    
    2001Operating ActivitiesNet income (loss)
    
    $
    (10,471
    )
    
    $
    (1,130
    )
    
    $
    1,780Change in income taxes
    
    
    (318
    )
    
    
    (1,481
    )
    
    
    Depreciation and amortization
    
    
    2,078
    
    
    
    1,391
    
    
    
    801Equity in earnings of subsidiaries
    
    
    7,080
    
    
    
    (599
    )
    
    
    (2,527
    )Dividends
    
    
    
    
    
    
    
    
    
    
    2,100Net realized investment gains (losses)
    
    
    (63
    )
    
    
    1,001
    
    
    
    1,310Other
    
    
    (1,269
    )
    
    
    633
    
    
    
    (355
    )Net cash provided (used) by operating activities
    
    
    (2,963
    )
    
    
    (185
    )
    
    
    3,109Investing ActivitiesInvestments, net
    
    
    (258
    )
    
    
    (18
    )
    
    
    (321
    )Capital contribution to Standard Life
    
    
    (5,000
    )
    
    
    (15,000
    )
    
    
    Purchase of HomeMed Channel, Inc.
    
    
    
    
    
    
    (1,025
    )
    
    
    Purchase of MyDoc.com
    
    
    (145
    )
    
    
    
    
    
    
    Purchase of PCA
    
    
    
    
    
    
    (190
    )
    
    
    Purchase of property and equipment, net
    
    
    (522
    )
    
    
    (777
    )
    
    
    (12,250
    )Net cash used by investing activities
    
    
    (5,925
    )
    
    
    (17,010
    )
    
    
    (12,571
    )Financing ActivitiesBorrowings
    
    
    26,915
    
    
    
    200
    
    
    
    26,218Borrowings from
affiliates
    
    
    (27
    )
    
    
    25,321
    
    
    
    2,534Repayments of notes payable and preferred stock
    
    
    (19,378
    )
    
    
    (6,942
    )
    
    
    (18,930
    )Issuance of common stock and warrants
    
    
    33
    
    
    
    (33
    )
    
    
    (8
    )Purchase of common stock for treasury
    
    
    
    
    
    
    (82
    )
    
    
    Dividends on preferred stock
    
    
    
    
    
    
    
    
    
    
    (318
    )Net cash provided (used) by financing activities
    
    
    7,543
    
    
    
    18,464
    
    
    
    9,496Net increase (decrease) in cash and cash equivalents
    
    
    (1,345
    )
    
    
    1,269
    
    
    
    34Cash and cash equivalents at beginning of year
    
    
    1,608
    
    
    
    339
    
    
    
    305Cash and cash equivalents at end of year
    
    $
    263
    
    
    $
    1,608
    
    
    $
    339
 See accompanying notes to condensed financial statements F-32




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##### Table of Contents



Schedule IICondensed Financial Information of Registrant (continued) STANDARD MANAGEMENT CORPORATION
(PARENT COMPANY) NOTES TO CONDENSED FINANCIAL STATEMENTS December 31, 2003
  1.
    
    Basis of Presentation For purposes of these condensed financial statements, Standard Management
carries its investments in subsidiaries at cost plus equity in undistributed
earnings of subsidiaries since date of acquisition. Net income of its
subsidiaries is included in income using the equity method. These condensed
financial statements should be read in conjunction with our consolidated
financial statements included elsewhere in this document.  2.
    
    Dividends from Subsidiaries Standard Management did not receive any dividends from its subsidiaries in
2003 and 2002. We received $1.6 million of dividends from subsidiaries in 2001.  3.
    
    Amounts due to subsidiaries We have $26.0 million of outstanding affiliated borrowings at December 31,
2003, pursuant to a $30 million Revolving Line of Credit Agreement between
Standard Management Financial Corporation and the Company. Borrowings under
the Revolving Line of Credit Agreement may be used for general corporate
purposes and to repay outstanding debt. The outstanding balance bears interest
equal to the prime rate and interest payments are payable quarterly. F-33




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##### Table of Contents



Schedule IV  Reinsurance 
 STANDARD MANAGEMENT CORPORATION Years Ended December 31, 2003, 2002 and 2001
(Dollars in Thousands) PercentageCeded to
    
    Assumed
    
    
    
    
    
    of AmountGross
    
    Other
    
    From Other
    
    
    
    
    
    AssumedAmount
    
    Companies
    
    Companies
    
    Net Amount
    
    to NetYear Ended December 31, 2003Life insurance in force
    
    $
    1,054,341
    
    
    $
    475,704
    
    
    $
    67,684
    
    
    $
    646,321
    
    

    
    10.47
    %Premiums:Life insurance and annuities
    
    $
    10,001
    
    
    $
    4,040
    
    
    $
    706
    
    
    $
    6,667Accident and health insurance
    
    
    12
    
    
    
    9
    
    
    
    
    
    
    
    3Supplementary contract and other funds
on deposit
    
    
    2,259
    
    
    
    
    
    
    
    
    
    
    
    2,259Total premiums
    
    $
    12,272
    
    
    $
    4,049
    
    
    $
    706
    
    
    $
    8,929Year Ended December 31, 2002Life insurance in force
    
    $
    1,089,067
    
    
    $
    543,782
    
    
    $
    73,145
    
    
    $
    618,430
    
    
    
    11.83
    %Premiums:Life insurance and annuities
    
    $
    10,079
    
    
    $
    2,946
    
    
    $
    785
    
    
    $
    7,918Accident and health insurance
    
    
    13
    
    
    
    10
    
    
    
    
    
    
    
    3Supplementary contract and other funds
on deposit
    
    
    1,270
    
    
    
    
    
    
    
    
    
    
    
    1,270Total premiums
    
    $
    11,362
    
    
    $
    2,956
    
    
    $
    785
    
    
    $
    9,191Year Ended December 31, 2001Life insurance in force
    
    $
    1,309,989
    
    
    $
    647,053
    
    
    $
    81,633
    
    
    $
    744,569
    
    
    
    10.96
    %Premiums:Life insurance and annuities
    
    $
    11,912
    
    
    $
    4,381
    
    
    $
    796
    
    
    $
    8,327Accident and health insurance
    
    
    370
    
    
    
    10
    
    
    
    
    
    
    
    360Supplementary contract and other funds
on deposit
    
    
    789
    
    
    
    
    
    
    
    
    
    
    
    789Total premiums
    
    $
    13,071
    
    
    $
    4,391
    
    
    $
    796
    
    
    $
    9,476
 F-34